The over-ordering problem in trade credit: Role of return policies

Bhawna Priya, Indranil Biswas and Anupam Agrawal

European Journal of Operational Research, 2023, vol. 309, issue 2, 731-744

Abstract: This paper explores the role of return policies on trade credit offered by suppliers to retailers. Traditional trade credit agreements, wherein a supplier extends a short-term loan to a retailer, can lead to over-ordering by the retailer even though she is financially constrained (FC), and this can affect supply chain efficiency. With ever-increasing product-handling costs, such over-ordering can have a severe impact on the supply chain profit. Motivated by our work with an industry partner, we design a game-theoretic model to evaluate optimal stocking decisions and wholesale prices in an FC supply chain, analyze the traditional trade credit model, and establish the reasons for over-ordering by the retailer when trade credit is deployed. We then examine how product returns, prevalent in the industry, can be used to control over-ordering. We design three different mechanisms incorporating returns in a trade credit model: quantity-limit-based returns, partial refund based returns, and marginal refund based returns. We find that returns-based policies improve profits for all members of the supply chain by driving inventory reduction and reducing over-ordering when trade credit is used. We also perform numerical analysis to quantify the impact of key parameters on the optimal decision variables. Our paper contributes by suggesting easy-to-implement mechanisms for improving trade credit deployment in supply chains and provides useful insights to decision makers to incorporate returns in trade credit policies.

Keywords: Inventory; Trade credit; Over-ordering; Financially constrained; Newsvendor (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ejores:v:309:y:2023:i:2:p:731-744

DOI: 10.1016/j.ejor.2023.01.013

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