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Supply option contracts with spot market and demand information updating

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  • Zhao, Yingxue
  • Choi, Tsan-Ming
  • Cheng, T.C.E.
  • Wang, Shouyang

Abstract

Motivated by the industrial practices, this paper develops a two-stage model to explore the supply option contract in a two-echelon supply chain, taking into account a stochastic spot market and demand information updating of general correlation. We develop a concept called EUOS (expected unit opportunity saving) by which to examine the expected benefit received per unit of the option under different market scenarios. With the concept of EUOS, we develop intuitive analytical results to characterize the optimal strategies for portfolio procurement via the option contract and spot markets, and to design the appropriate option mechanism for supply chain coordination. Furthermore, we reveal that EUOS can be a viable alternative for real option pricing in the supply chain. Detailed comparisons between the mixed market scenario (in which the spot market and the option contract market co-exist) and the scenario with pure spot market or pure option contract market are made, and thereby we analytically examine the effects of supply competition between the spot market and the option contract market. Our paper contributes to the literature by developing intuitive characterizations for the option contract models and generating some new insights with respect to the use of supply option contracts in the supply chain in the presence of a stochastic spot market and demand information updating.

Suggested Citation

  • Zhao, Yingxue & Choi, Tsan-Ming & Cheng, T.C.E. & Wang, Shouyang, 2018. "Supply option contracts with spot market and demand information updating," European Journal of Operational Research, Elsevier, vol. 266(3), pages 1062-1071.
    • Handle: RePEc:eee:ejores:v:266:y:2018:i:3:p:1062-1071
    DOI: 10.1016/j.ejor.2017.11.001
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    19. Wang, Qingwei & Zheng, Meimei & Lee, Ka-Man & Shi, Xiaoqian & Shen, Yichi & Pan, Ershun, 2024. "Optimal product and after-sales service decisions considering risk attitudes under price-dependent uncertain demand," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 182(C).
    20. Alavi Fard, Farzad & He, Jian & Ivanov, Dmitry & Jie, Ferry, 2019. "A utility adjusted newsvendor model with stochastic demand," International Journal of Production Economics, Elsevier, vol. 211(C), pages 154-165.
    21. Meng, Qingchun & Kao, Zhiping & Guo, Ying & Bao, Chunbing, 2023. "An emergency supplies procurement strategy based on a bidirectional option contract," Socio-Economic Planning Sciences, Elsevier, vol. 87(PA).
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    23. Zhuo, Wenyan & Shao, Lusheng & Yang, Honglin, 2018. "Mean–variance analysis of option contracts in a two-echelon supply chain," European Journal of Operational Research, Elsevier, vol. 271(2), pages 535-547.
    24. Li, Tianyun & Fang, Weiguo & Baykal-Gürsoy, Melike, 2021. "Two-stage inventory management with financing under demand updates," International Journal of Production Economics, Elsevier, vol. 232(C).

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