Leveraging concurrent sourcing for risk mitigation and pricing

We investigate a setting where a firm may choose to make and buy components used to manufacture finished goods and determine the optimal decision strategy under supply and demand risk. We assume supply risk is of an all-or-nothing manner, i.e., either the supply is totally disrupted or not. We show that the optimal strategy follows a complex threshold structure dictated by cost and capacity parameters and the component and finished product inventories. We use our results regarding the manufacturing firm’s optimal strategy to investigate the effects of concurrent sourcing on the supplier’s optimal pricing strategy. In particular, we investigate the manufacturer’s decision to share information regarding their in-house production capabilities. We find that such information sharing can benefit both parties. Specifically, an improved understanding of the manufacturer’s capabilities can result in the supplier offering lower prices to improve competitiveness. Further, we show that increasing capacity at the manufacturer may increase outsourcing in relation to insourcing.