Extended Warranties: a Behavioral Perspective

ABSTRACT - Extended warranties have become a major revenue source for durable goods retailers, prompting some retailers to use questionable practices in an attempt to maximize their sales. This paper develops an integrated framework based on prospect theory and protection motivation within which to examine these practices. Propositions are presented with respect to: (1) individual consumer difference variables which contribute to a predisposition to the extended warranty offer; and (2) the impact of (a) the timing of the extended warranty offer and (b) the use of fear appeals in the offer on consumer perceptions of product quality and value. Implications for retailers are offered.

Citation:

Glenn B. Voss and Irfan Ahmed (1992) ,"Extended Warranties: a Behavioral Perspective", in NA - Advances in Consumer Research Volume 19, eds. John F. Sherry, Jr. and Brian Sternthal, Provo, UT : Association for Consumer Research, Pages: 879-886.

Advances in Consumer Research Volume 19, 1992      Pages 879-886

EXTENDED WARRANTIES: A BEHAVIORAL PERSPECTIVE

Glenn B. Voss, Texas A&M University

Irfan Ahmed, Texas A&M University

ABSTRACT -

Extended warranties have become a major revenue source for durable goods retailers, prompting some retailers to use questionable practices in an attempt to maximize their sales. This paper develops an integrated framework based on prospect theory and protection motivation within which to examine these practices. Propositions are presented with respect to: (1) individual consumer difference variables which contribute to a predisposition to the extended warranty offer; and (2) the impact of (a) the timing of the extended warranty offer and (b) the use of fear appeals in the offer on consumer perceptions of product quality and value. Implications for retailers are offered.

INTRODUCTION

Retailers in the past decade have increasingly offered extended warranties on durable consumer goods. These warranties provide retailers with an additional source of revenue in a market characterized by long repurchase cycles, with prices of extended warranties generally exceeding "...the average expected costs of repair by considerably more than what might be attributed to profit and overhead" (Fox and Day 1988, p. 337). They also offer dealers opportunities for repeat customer contact, with the goal of interesting customers in future purchases (Advertising Age 1985). Finally, the marketing of extended warranties offers retailers an opportunity to enhance the image of their store (Kelley et al 1988).

When effectively marketed and implemented, extended warranties offer a win/win situation for consumers and retailers alike. Extended warranties appeal to consumers by reducing perceived risk and assuring consistent and quality service (Bryant and Gerner 1982). Estimates of the number of eligible purchases which include extended warranties range from 30-50% (Koten 1984; Plotkin 1985). However, many retailers have exploited extended warranties as an opportunity for short-term profits, resorting to fear appeals to increase their sales, going so far as to overstate the likelihood of a product breakdown (Sales & Marketing Management 1985). In doing so, these retailers typically eschew marketing the extended warranty as an added service feature, opting instead to present this optional service after the purchase decision has been made.

How do consumers evaluate the extended warranty purchase decision? What consumer difference variables affect this decision? What impact does presentation timing have on the consumer's transaction utility? This paper seeks to provide answers to these questions by: (1) reviewing and integrating the relevant literature; (2) incorporating testable propositions into a sequential decision-making model based on protection motivation theory and prospect theory, and (3) exploring the impact of (a) the timing of the extended warranty offer, particularly in the context of cognitive dissonance and the importance of post-purchase feedback in the consumer decision-making process, and (b) the use of fear appeals aimed at heightening the consumer's desire for risk reduction in the context of the consumer's overall retail experience. Finally, managerial policy implications are offered.

THEORETICAL BACKGROUND

Literature on the marketing of extended warranties and service contracts is limited. The Center for Policy Alternatives at the Massachusetts Institute of Technology conducted a major descriptive study on warranties and service contracts for consumer durables (Center for Policy Alternatives, 1978). Day and Fox (1985) offered a brief review of practices in the sales of service contracts, discussed issues raised in prior research and their own exploratory study, and offered some suggestions on the marketing of service contracts. Bryant and Gerner (1978) dealt with the economics of service contracts and developed an economic decision making model (1982) for the purchase of a service contract. Kelley and Conant studied the perceptions of consumers (1987) and the perceptions of retailers (1988) toward extended warranties, and followed up with a broad-based study (1991) of the perceptions of consumers and retailers. No attempt to date, however, has incorporated extant theory with the limited findings to produce a behavioral model of the extended warranty purchase decision.

Perceived Risk

Empirical evidence suggests that consumers view extended warranties as insurance to reduce perceived risk (Kelley and Conant 1987, 1991). Risk associated with consumer purchase includes dimensions of performance, financial, psychological, social, convenience loss, and physical risk (Kaplan, Szybillo and Jacoby 1974). An extended warranty specifically attenuates three of these dimensions: performance risk (Will it work properly?); financial risk (Will it cost too much to maintain it?); and convenience loss (How much time, convenience, and effort will be required if the product does fail?).

Perceived Quality

Perceived quality is a higher level abstraction that in some cases resembles attitude (Zeithaml 1988). Steenkamp (1990) proposes that quality beliefs can be formed through descriptive belief formation (by actually experiencing the product's experience attributes), informational belief formation (accepting information provided by outside sources), or inferential belief formation (based on prior knowledge of the product category), with consumers most often engaging in inferential belief formation. Brucks and Zeithaml (1987) have identified six abstract dimensions of product quality which can be generalized across categories of durable goods (the domain for this paper): ease of use, functionality, performance, durability, serviceability, and prestige.

Protection Motivation Theory

Much of the research on insurance purchase behavior has focused on protection motivation. According to protection motivation theory (Rogers 1975), a fear appeal can be broken down into three components, each one initiating a cognitive appraisal process: (1) the magnitude of noxiousness of the depicted event, (2) the conditional probability that the event will occur in the absence of adaptive action, and (3) the effectiveness of a coping response that might avert the noxious event.

In the case of an extended warranty, the fear associated with a probabilistic product breakdown depends on the consequence of a breakdown, the probability of a breakdown occurring, and the perceived efficacy of the extended warranty in protecting against the loss incurred due to a breakdown. Slovic et al. (1977) found that people buy more insurance against events having a moderately high probability of inflicting a relatively small loss than against a low probability, high loss event. Slovic et al. (1978) found that protective behavior is influenced more by the probability of a hazard than by the magnitude of its consequences, and that people are not inclined to protect themselves voluntarily against very low probability threats. Accordingly, consumers who believe that there is a high likelihood that a product will break are more likely to purchase an extended warranty.

Prospect Theory

According to prospect theory, making a choice under risk involves a two-step process: (1) framing and editing and (2) evaluation. In the first phase, the decision-maker simplifies (edits) the problem into distinct prospects which are then framed according to: (1) the way the choice set has been externally framed during presentation (e.g., a fear appeal emphasizing the potential losses associated with a product breakdown would create a negative frame); and (2) how the decision-maker frames the decision internally based on an individual reference point (e.g., a risk-seeking decision-maker would frame a risky alternative more favorably than a risk averse decision-maker). In the evaluation phase, the framed prospects are evaluated and the most appealing prospect is chosen in one of two methods: (1) identifying the dominant prospect if dominance is apparent or (2) determining the prospect with the greatest value when dominance is ambiguous. The prospect of greatest value is determined by an S-shaped function that passes through the reference point, is concave for gains and convex for losses, and is steeper for losses than for gains (Tversky and Kahneman 1986). This implies that decision-makers in general are risk-averse when prospects have been framed as gains and risk-seeking when prospects have been framed as losses.

An Integrated Model

In the context of an extended warranty purchase decision, protection motivation theory and prospect theory have comparable implications (see Figure 1). The risk associated with the decision in prospect theory parallels the noxiousness of the event in protection motivation theory. The perceived noxiousness of the event (product breakdown) can be viewed as the perceived consequences of a breakdown; that is, the risk associated with the financial and convenience loss in the event of a breakdown. The probability associated with the event occurring is consistent with both theories and is associated with the perceived performance risk. The efficacy of the coping response (extended warranty) would be incorporated into the framing and editing process in prospect theory.

The Quality-Risk Connection

Perceived risk and perceived quality also have many similarities: both are multidimensional constructs involving higher level abstractions; both are salient during the consumer decision-making process; and both share similar (at times identical) dimensions. Furthermore, we propose that perceived quality is a moderator variable that contributes to the determination of perceived risk (along with individual difference variables). For example, it is quite likely that a consumer considers quality cues that signal performance and durability quality to evaluate the perceived performance risk (Will it work properly now and in the future?) associated with a durable good purchase. Likewise, when evaluating financial risk, durability cues are used, and when evaluating convenience loss risk, serviceability cues are used. This connection leads to the following propositions on the role of quality dimensions as antecedent to assessment of perceived risk:

P1A: The perceived risk associated with a purchase decision is largely determined by the perceived quality of the product.

P1B: The perceived performance risk associated with a purchase decision is largely determined by the perceived performance quality and durability of the product.

P1C: The perceived financial risk associated with a purchase decision is largely determined by the perceived durability of the product.

P1D: The perceived convenience loss risk associated with a purchase decision is largely determined by the perceived serviceability of the product.

In addition to perceived quality, individual difference variables (including risk attitude and initial reference point) and (the perceived efficacy of) the extended warranty offer determine the extended warranty decision.

Individual Difference Variables

Risk Attitude. Qualls and Puto (1989) noted that some consumers are immune to framing effects, concluding that, "These buyers appear to have a risk attitude that remains invariant across decision contexts." (p. 190) Accordingly,

FIGURE 1

AN INTEGRATED EXTENDED WARRANTY DECISION MODEL

P2A: Some number of very risk-averse consumers would purchase an extended warranty under any circumstances.

P2B: Some very risk-seeking consumers would not buy an extended warranty under any circumstances.

P2C: Most consumers would frame and evaluate the decision.

To frame and evaluate the extended warranty decision, it is first necessary to assign a probability to the likelihood that the product would break down in the time frame specified in the extended warranty. Since the exact likelihood that a product will break down is unknown, the consumer estimates the probability on the basis of experience and/or information available on the product class. Buyers differ in the extent of experience with the product class and the amount of information relating to product performance that they have acquired. Four types of consumers assigned to a 2 (high/low levels of experience) X 2 (high/low levels of search) matrix will be considered.

High Experience/Low Search. In the case of the extended warranty purchase decision, relevant information would be information regarding the performance, durability and serviceability of the product. Prior ownership within the product class and/or of the brand would lead to prior beliefs for the product class, which in turn would be attributed to the brand currently under consideration through inferential belief formation (Steenkamp 1990). Positive experiences with the product class would have two effects: (1) the assignment of the probability of future breakdowns would be attenuated, as suggested by the availability heuristic (Tversky and Kahneman 1973) and (2) the perception of prior gains would lead to risk-taking behavior and rejection of the extended warranty (cf. Thaler and Johnson 1990).

High Experience/High Search. If prior experience and beliefs with the product class exist, external search is expected to be diminished (Beatty and Smith 1987) and to confirm rather than disconfirm prior beliefs (John et al., 1986; Snyder and Swann, 1978). Therefore, external search would be expected to have little impact on consumers with prior beliefs and consumers with high experience/high search should act similar to those with high experience/low search. Therefore,

P3A: The single best predictor of quality and risk (i.e., product non-performance) is prior experience with the product class.

P3B: The existence of prior gains (positive experiences with the product class) would predict rejection of the extended warranty.

P3C: The existence of prior losses (negative experiences with the product class) would predict acceptance of the extended warranty.

Low Experience/Low Search. Consumers lacking prior experience who undertake little or no search would likely lack motivation (involvement) and ability. According to the Elaboration Likelihood Model (Petty and Caccioppo 1979), these consumers would have processed information mainly along the peripheral route and would likely rely on the salesperson to assign a probability of non-performance. In this case, the most important issue would be the credibility of the salesperson. Thus,

P4: In the absence of prior experience or search, the probability of the sale of an extended warranty will depend primarily on the source credibility of the salesperson.

Low Experience/High Search. In the absence of prior experience and beliefs, perceived quality would depend on either descriptive belief formation (if available) or informational belief formation. Since the salient dimensions for the extended warranty decision (especially durability and serviceability) depend primarily on credence attributes, in the absence of prior beliefs, informational belief formation is most likely (Steenkamp 1990). Secondary information could come from multiple sources: exposure to formal evaluative information (e.g., Consumer Reports repair and cost indices), informal evaluative information (from friends), advertising messages, an extensive search process, or the current salesperson. Since the current salesperson's input comes last (temporally), it is likely that by this time the consumer undertaking extensive search will have already existing beliefs regarding the purchase under consideration.

P5A: In the absence of prior gains or losses, the single best indicator of quality belief formation is extensive search or exposure to evaluative information.

Search Strategies. A consumer who has gone through extensive information search prior to making the product choice decision is likely to be highly involved with low product class knowledge (Beatty and Smith 1987); high involvement and the absence of prior experience are sufficient criteria to indicate that product quality information processing would be imperfect (Gotlieb & Swan 1990). Tellis and Gaeth (1990) propose that when information on product quality is not perfect, consumers follow one of three strategies: price-seeking, price aversion, and best value. A price-seeking strategy is based on a perceived price-quality correlation which implies a willingness to "pay for quality." Since quality information is imperfect, s/he is likely: (1) to purchase a more expensive brand; (2) to use the brand name as a quality cue; (3) to frame the extended warranty as a potential gain (offering increased performance quality and diminished financial and convenience loss); and (4) according to prospect theory, choose to purchase the insurance.

P5B: In the absence of prior gains or losses, consumers who use a price-seeking strategy would be more likely to purchase an extended warranty.

A price aversion strategy, on the other hand, discounts the value of available quality information and uses (low) price as the sole choice criterion. Under this strategy, the consumer is likely: (1) to purchase the least expensive brand; (2) to frame the extended warranty as a loss (i.e., an additional cost); and (3) choose to reject the insurance.

P5C: In the absence of prior gains or losses, consumers who use a price aversion strategy would be more likely to reject an extended warranty.

Since price-seeking and price aversion strategies are unidimensional strategies, there is no reason to expect that the timing of the extended warranty offer would complicate the decision process. However, the timing of the extended warranty offer is likely to be salient to consumers using the more complex best-value strategy which seeks to maximize perceived value as determined by intrinsic and extrinsic attributes, perceived quality, and perceived sacrifice (Zeithaml 1988).

Timing of the Offer and Best Value

If the extended warranty is offered prior to or along with the product, the buyer is aware of the cost and terms of the extended warranty while determining the perceived quality and value of the product. The extended warranty offer represents an add-on bundle whereby the value (and sacrifice) of the warranty is added to the value of the product under consideration (cf. Guiltinan 1987). Since the extended warranty offer is made in general (with respect to the retailer's entire product line), the add-on bundle will not be perceived as being specific to the chosen product. The decision to purchase the bundle would depend on whether the perceived value of the bundle exceeded the perceived value of the unbundled product, and the extended warranty service would probably be viewed as an add-on service feature of this particular retailer (Kelley et al 1988). For the best value shopper encountering this optional service prior to or along with the product, the extended warranty decision is indeterminate.

On the other hand, if the subject of the extended warranty is broached after the purchase, the add-on bundle would be seen as being specific to the chosen product, thereby changing perceptions of the value of and sacrifice for the product. In this context, the following propositions are offered:

P6A: An offer of extended warranty options prior to purchase of a product will not alter the perceived value of and perceived sacrifice for the product.

P6B: Exposure to the extended warranty option after the commitment to purchase the product will alter the perceived value of and sacrifice for the product.

Post-Purchase Cognitive Dissonance. Attempts to sell an extended warranty after the purchase decision has been made would form an extraneous input at the post-decision behavior stage, contributing to a post-purchase re-evaluation of the product. The introduction, at this stage, of new information regarding the possibility of non-performance and the need for the buyer to seek protection from this risk exposes a new, undesirable aspect of the product just purchased. The extended warranty would represent a new extrinsic attribute which would undermine the perceived quality and value of the product (Day and Fox 1985).

All three major models of consumer decision making (Nicosia; Engel, Kollat and Blackwell; Howard and Sheth) recognize the post-purchase experience as feedback into the consumer decision making process. According to Zaltman (1965), a buyer, after the purchase of a relatively specialized and infrequently purchased product, often experiences cognitive dissonance in spite of a careful pre-decision evaluation of competing products. The offer of an extended warranty to insure against failure of a product already purchased adds undesirability to that product.

P7: For the consumer using a best-value strategy:

(A) Exposure to information on extended warranty options and attempts to sell these contracts after the purchase of a brand would cause a decrease in the perceived quality and value of the chosen brand.

(B) The post-purchase offer of an extended warranty would introduce cognitions dissonant with the satisfaction derived from the purchase, creating or further aggravating post-purchase cognitive dissonance in the buyer.

(C) The creation or further aggravation of post-purchase cognitive dissonance would add to the perceived non-monetary sacrifice associated with the product, further diminishing the perceived value of the product.

Fear Appeals & Psychological Reactance. In the post-purchase approach, retailers typically use hard sell tactics, including fear appeals emphasizing the risk of non-performance, the attendant financial loss that may occur during the life of the product, and how the extended warranty can insure against such losses. However, increasing the threat of negative consequences increases persuasion only when source credibility is high; when the credibility of the source is relatively low, any level of fear arousal is non-persuasive (Sternthal and Craig 1974). Pressure to purchase often results in a boomerang effect (Clee and Wicklund 1980; Brehm and Brehm 1981), and hard sell messages foster an inverse relationship between perception of persuasive intent and favorability toward the consumer products being promoted (Robertson and Rossiter 1974).

The presence of cognitive dissonance (in the post-purchase scenario) would likely affect source credibility and acceptance of such fear arousing messages. Given the presence of cognitive dissonance and the tendency to perceive new information selectively, there could be an increase in confidence in the decision just made and consequent discounting of the negative information being presented by the seller. The seller's effort to induce a protection motivation response would lead to attribution of persuasive intent, thereby further reducing source credibility and chances of acceptance of the recommendations. Given the already existing need for assertion of confidence in the product purchase to reduce dissonance, persistence and pressure from the seller would be construed as an attempt to curtail choice and force a particular behavior, thereby fostering reactance behavior.

P8: For the consumer using the best-value strategy, the creation (or aggravation) of cognitive dissonance by the post-purchase offer of an extended warranty would lead to rejection of the extended warranty offer.

Figure 2 summarizes the propositions which have a direct impact on the extended warranty decision.

The Buyer's Experience

The preceding section discussed the possible outcomes of attempts to sell an extended warranty, and the influence of cognitive dissonance on the effectiveness of sales appeals. The appraisal of buyer characteristics and categorization of cues about the buyer have been proposed as determinants of selling effectiveness (Szymanski 1988), and depending on the accuracy of appraisal of buyer characteristics and suitable sales communication by the seller, a person may or may not buy the extended warranty. In either case, the buyer has been exposed to an additional element of risk, dissonance has been created immediately after the purchase, and s/he is likely to have been put through some emotional tension due to this exposure. This tension would cause a decrease in transaction utility and an increase in nonmonetary sacrifice leading to lower overall satisfaction with the purchase experience (Baker 1990).

P9: The offer and rejection of an extended warranty after the purchase of a product would lead to lower overall satisfaction with the retail service experience.

FIGURE 2

A SEQUENTIAL DECISION MAKING MODEL

IMPLICATIONS AND CONCLUSIONS

Extended warranties offer durable goods retailers a source of profits to supplement their main activity of product sales. Some retailers resort to high pressure sales tactics to sell extended warranties to customers who have just purchased a product by arousing protection motivation against possible losses due to product breakdown. Retailers need to understand consumers' decision-making processes and the impact of their efforts to sell an extended warranty in this perspective. This paper explored some of the individual difference variables which mediate the extended warranty decision process as well as behavioral aspects relating to the timing of the extended warranty offer and the use of fear tactics in that offer. Subject to verification, the preceding discussion suggests that there are three types of consumers who are predisposed to purchase an extended warranty: those who are inherently very risk averse; those who have experienced prior losses in the product category; and those who use a price-seeking search strategy. Two categories of consumers -- one who has no previous experience and conducts little or no search and one who uses a best value search strategy -- may be susceptible to salesperson persuasion if source credibility is high.

Even though probability of non-performance remains the most important feature considered in making the decision, Rogers and Mewborn (1975) found the efficacy of the coping response to be the largest influencing variable for adoption of the communicator's recommendations. Therefore, the salesperson's message should focus on the benefits of the extended warranty rather than the deleterious effects of product non-performance. The use of fear appeals runs the risk of decreasing the perceived value of the purchase transaction and the overall retail experience. The overall dissatisfaction with the shopping experience could discourage future patronage since significant correlation exists between (a) satisfaction with a shopping experience and post-shopping attitudes; and (b) post-shopping attitudes and future shopping intentions (Swan 1977). At a time when retailers need to focus on service quality and customer loyalty (Berry 1986), the jeopardizing of customer goodwill by the creation of dissatisfaction should be avoided.

Three conclusions regarding the timing of the extended warranty offer are offered: (1) at least for the consumer using a best-value strategy, a post-purchase offer introduces or aggravates cognitive dissonance, increases non-monetary sacrifice and decreases the perceived quality and value of the product; (2) it is likely that this dissonance leads to source derogation diminishing the salesperson's efficacy; and (3) it is likely that this added aggravation is attributed to the retailer, thereby reducing the likelihood of future patronage. In the long term interest of continued patronage (especially relevant to retailers of products with quicker obsolescence), the practice of offering extended warranties, particularly in conjunction with fear appeals, is questionable.

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