Coordinating Vulnerable Supply Chains with Option Contracts

Zhongyi Liu (), Shengya Hua and Guanying Wang ()
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Zhongyi Liu: School of Management, People’s Public Security University of China, Beijing 100038, P. R. China
Shengya Hua: School of Economics and Management, South China Normal University, Guangzhou 510631, P. R. China
Guanying Wang: College of Management and Economics, Tianjin University, Tianjin 300072, P. R. China

Asia-Pacific Journal of Operational Research (APJOR), 2021, vol. 38, issue 04, 1-30

Abstract: We investigate vulnerable supply chain coordination with an option contract in the presence of supply chain disruption risk caused by external and internal disturbances. The supply chain consists of a single risk-neutral supplier and a risk-averse retailer. We characterize the retailer’s order quantity decision under the Conditional Value-at-Risk (CVaR) criterion and the supplier’s production decision. The results show that facing disruption risk and risk-aversion, both the retailer and the supplier would be more prudent to order and produce less than the risk-neutral scenario, inducing damage to the supply chain performance. The number of options purchased is decreasing in disruption risk and the risk-aversion of the retailer. The supplier will increase production as the disruption risk decreases or the shortage penalty increases. When the supplier does not know the risk-aversion of the retailer, the former will produce more and bear a higher overstock risk. We also investigate conditions that facilitate vulnerable supply chain coordination and find that the existence of risk-aversion and disruption risk restrict the option price and exercise price to lower price levels. Finally, we compare the option contract with wholesale price contract from the supplier’s and retailer’s perspectives through a numerical study.

Keywords: Supply chain coordination; disruption risk; option contract; risk-averse retailer (search for similar items in EconPapers)
Date: 2021
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DOI: 10.1142/S0217595920500530

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