An Incentive Effect of Multiple Sourcing

Abstract

We consider a supply chain with one manufacturer who assembles an end-product consisting of two components (A and B), where each component is purchased from multiple outside suppliers. The manufacturer’s decision as to the contract to offer each supplier is complicated by two factors: (1) each potential supplier is self-interested and privately-informed as to his marginal cost of production; and (2) any A parts delivered in excess of B parts (or vice versa) cannot be inventoried but must be disposed of at no value. Thus, the manufacturer must choose the contract to offer each so as to coordinate or balance their production, while taking into consideration their selfinterested behavior. We demonstrate that increasing the number of suppliers mitigates (but does not entirely eliminate) the production distortions arising from these two factors. Hence, we show that increasing the supplier base can have efficiency enhancing effects that have not been previously described in the literature.

Keywords: Quality, multiple sourcing, contracting, asymmetric information

JEL Classification: D82, L14, L15, L23, L60