Execution Quality and Chargeback Penalties in Retail Supply Chains
48 Pages Posted: 30 Jul 2015 Last revised: 16 May 2019
Date Written: May 14, 2019
Retailers procure inventory by placing purchase orders (POs) with suppliers. POs specify product price, quantity, quality, delivery times, and other aspects of the fulfillment process, such as carton labeling requirements and packaging formats. Suppliers’ adherence to fulfillment terms enables retailers’ supply chain optimizations, e.g., automation and pack-by-store flow. When servicing an order, a supplier may fail to meet the fulfillment terms, thus committing a fulfillment error and triggering a chargeback penalty. Chargebacks reduce supplier revenues, transferring billions of dollars from suppliers to retailers annually. We collect supplier compliance manuals from 111 retailers to characterize fulfillment errors and chargebacks in practice. The majority of chargeback penalties listed by retailers pertain to execution quality: aspects of the fulfillment process beyond product price, quantity, quality, and delivery time. Hence, chargebacks can act as mechanisms for firms to coordinate on execution quality. We develop an empirically grounded model to study the effectiveness of chargeback penalties as coordination mechanisms for execution quality. First, we assess whether the chargeback penalties retailers use in practice accurately convey the cost of execution quality errors from the retailer to the supplier. Second, we analyze the extent to which chargeback penalties coordinate a supply chain on execution quality via a game between a retailer and a supplier. The retailer sets a chargeback policy, and the supplier trades off among chargeback penalties, its own cost of execution quality, and its ability to raise its price. The analyses reveal that common chargebacks that retailers use in practice do not coordinate supply chains on execution quality.
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