Procurement Flexibility under Price Uncertainty

McCombs Research Paper Series No. IROM-04-091

INNOVATIVE QUICK RESPONSE PROGRAMS IN LOGISTICS AND SUPPLY CHAIN MANAGEMENT, T.C. Edwin Cheng, Tsan-Ming Choi, eds., Spring 2009

30 Pages Posted: 4 Nov 2008 Last revised: 9 Sep 2009

See all articles by Qi Feng

Qi Feng

Purdue University - Krannert School of Management

Suresh Sethi

University of Texas at Dallas - Naveen Jindal School of Management

Date Written: November 2, 2008

Abstract

This chapter examines the interaction between supply price uncertainty and demand uncertainty. We consider a manufacturer who sources a key component using different procurement options: a long-term order on a price-only contract, short-term orders on an adjustment contract, and short-term purchases directly from the market. At the beginning of the planning cycle, the manufacturer places a long-term order and reserves a certain amount of supply capacity for the purpose of adjusting the long-term order, if needed. Before the selling season, the manufacturer has multiple options to place supplementary orders from the reserved capacity or from the market.

We compare two types of capacity arrangements: dedicated capacity and overall capacity. Under a dedicated capacity arrangement, the manufacturer reserves capacities separately for different adjustment opportunities. On the overall capacity arrangement, she keeps the flexibility of using the reserved capacity within the given period for possibly multiple adjustments. We discuss the optimal procurement strategies and the criteria for capacity allocations, as well as the policy behavior and service performance in different situations.

Keywords: Procurement Flexibility, Price Risk-Sharing, Capacity, Base-Stock Policy

Suggested Citation

Feng, Qi and Sethi, Suresh, Procurement Flexibility under Price Uncertainty (November 2, 2008). McCombs Research Paper Series No. IROM-04-091, INNOVATIVE QUICK RESPONSE PROGRAMS IN LOGISTICS AND SUPPLY CHAIN MANAGEMENT, T.C. Edwin Cheng, Tsan-Ming Choi, eds., Spring 2009, Available at SSRN: https://ssrn.com/abstract=1293938 or http://dx.doi.org/10.2139/ssrn.1293938

Qi Feng

Purdue University - Krannert School of Management ( email )

1310 Krannert Building
West Lafayette, IN 47907-1310
United States

Suresh Sethi (Contact Author)

University of Texas at Dallas - Naveen Jindal School of Management ( email )

800 W. Campbell Road, SM30
Richardson, TX 75080-3021
United States

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