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Optimal Sourcing Orders under Supply Disruptions and the Strategic Use of Buffer Suppliers

Author

Listed:
  • Sarah Parlane

    (University College Dublin)

  • Ying-Yi Tsai

    (National University of Kaohsiung)

Abstract

This paper analyses procurement from two, risk-averse, suppliers who are responsible for the timely delivery of some inputs. Their production is subject to inherent disruptions. We characterize the optimal contracts when suppliers can invest to lower the risk of delays that are costly to the manufacturer. When investment is contractible, we show that issuing asymmetric contracts, whereby the buyer is more heavily dependent on one supplier, is optimal as the cost associated with supply disruptions increases. When investment is not contractible, we show that large orders can be used as an incentive devise. Thus, the strategy consisting of selecting one supplier as a main producer and another as a buffer has further desirable advantages under moral hazard.

Suggested Citation

  • Sarah Parlane & Ying-Yi Tsai, 2014. "Optimal Sourcing Orders under Supply Disruptions and the Strategic Use of Buffer Suppliers," Working Papers 201417, School of Economics, University College Dublin.
    • Handle: RePEc:ucn:wpaper:201417
    as

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    File URL: https://www.ucd.ie/t4cms/WP14_17.pdf
    File Function: First version, 2014
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    References listed on IDEAS

    as
    1. Gong, Jiong & Li, Jianpei & McAfee, R. Preston, 2012. "Split-award contracts with investment," Journal of Public Economics, Elsevier, vol. 96(1), pages 188-197.
    2. Sarah Parlane & Ying-Yi Tsai, 2013. "Optimal Contract Orders and Relationship-Specific Investments in Vertical Organizations," Working Papers 201316, School of Economics, University College Dublin.
    3. Jean-Jacques Laffont & Jean Tirole, 1993. "A Theory of Incentives in Procurement and Regulation," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262121743, April.
    4. Karl Inderfurth & Josephine Clemens, 2011. "Supply chain coordination by risk sharing contracts under random production yield and deterministic demand," FEMM Working Papers 110025, Otto-von-Guericke University Magdeburg, Faculty of Economics and Management.
    5. Yimin Wang & Wendell Gilland & Brian Tomlin, 2010. "Mitigating Supply Risk: Dual Sourcing or Process Improvement?," Manufacturing & Service Operations Management, INFORMS, vol. 12(3), pages 489-510, September.
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    Investment; Risk; Costly Delays; Order Size and Moral Hazard;
    All these keywords.

    JEL classification:

    • D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • L24 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Contracting Out; Joint Ventures

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