Supply Risk Mitigation in a Decentralized Supply Chain: Price Postponement or Payment Postponement?

Abstract

In a multi-stage model of a bilateral supply chain, we study two postponement strategies that the downstream retailer may deploy to mitigate the supply yield risk originated from the upstream production process. The retailer could either postpone the procurement payment until after the yield is realized and pay only for the delivered amount, or postpone the pricing decision to better utilize the available supply, or do both. Due to the decentralized setting, the timing of the payment and pricing will have a ripple effect and generate system-wide implications on the channel performance. Taking a game theoretic approach, we formulate a Stackelberg game and solve for the equilibrium in four scenarios respectively, in which the retailer uses different combination of the aforementioned postponement strategies. There are three main findings. First, when the production cost is low and the yield loss is highly likely, the retailer never strictly benefits from either postponement strategy; otherwise, the retailer is more likely to deploy payment, rather than price, postponement. Second, we uncover a situation where postponing price and payment are strategic complements for the retailer. That is, the use of one strategy may increase the benefit of using the other. Third, we identify conditions on the production cost and the random yield distribution, under which the postponement strategies can be Pareto optimal to the entire supply chain, making the firms' profits and the consumer surplus simultaneously higher. These results can be applied in many practical settings to provide guidance to effectively mitigate supply yield risk. Specifically, they may help a firm better design the procurement contract and properly use marketing instrument (pricing) to mitigate supply risk and increase profit.

Keywords: Supply Risk, Random Production Yield, Postponement, Pricing