Designing Supply Contracts: Buy-now, Reserve, and Wait-and-see

Joice (Qiaohai) Hu, Jen-Yi Chen, Maqbool Dada

Research output: Contribution to journalArticlepeer-review

Abstract

We consider three types of purchase contracts a manufacturer could offer in order to maximize its profit when supplying a retailer that uses responsive pricing to sell in an uncertain market:  buy-now  before the selling season starts,  reserve  stock for possible future purchase, and  wait-and-see  the market before making purchases. The existing literature has shown that adding a recourse purchase—i.e., the wait-and-see alternative—is always beneficial for the retailer who faces an uncertain demand. We find that this is not necessarily the case for the manufacturer who supplies the retailer, as its optimal contract mix depends on the market uncertainty as well as its production characteristics. The manufacturer should offer only the buy-now alternative if its recourse production is much more costly than advance production. As the recourse production cost decreases, the manufacturer should add a second contract to the portfolio: initially the reserve contract and then the wait-and-see contract. However, when the recourse production is cheaper than advance production, the manufacturer should drop the buy-now contract from the mix. As such, it is only in a small region, which shrinks with decreasing uncertainty in demand, that the manufacturer finds it optimal to offer all three purchasing alternatives.
Original languageAmerican English
JournalIIE Transactions
Volume48
DOIs
StatePublished - 2016

Disciplines

  • Business

Cite this