The Right to Return

This article studies the allocation of responsibility for unsold inventory, provision for which is made in practically every distribution contract. The two extreme cases are the consignment contract, which allocates all the burden to the manufacturer, and the no-return contract, in which retailers purchase the merchandise outright and assume responsibility for unsold inventory. Contract choices are shown to vary across countries, industries, products and types of transactions. The article identifies six main factors affecting this choice: optimal inventory policy in a stochastic retail demand environment, relative advantage in disposing of the unsold inventory, optimal risk allocation, incentives to invest in promotions and provide services to increase consumer demand, information asymmetry, and costs associated with the consignment contract per se. Several testable implications are presented, and the choice of contracts in the publishing industry is shown to be consistent with the predictions of the model.