Failure Risk and Quality Cost Management in Single versus Multiple Sourcing Decision

Abstract

This is the unspecified version of the paper.This version of the publication may differ from the final published version. Permanent repository link: ABSTRACTThe advantage of multiple sourcing to protect against supplier failures arising from undependable products due to latent defects is examined using a model with non-linear external failure costs. Prior research has focused only on supplier failures arising from unreliable supply, such as late/insufficient/no delivery. I derive a closed-form characterization of the optimal production quota allocation for the LUX (Latent defect-Undependable product-eXternal failure) setting. The allocation determines the optimal supply base, with intuitive properties that hold under a mild requirement. The requirement includes the special case of equal procurement costs charged by suppliers but also allows unequal costs without any particular order. The key result of the paper is a necessary and sufficient condition determining whether single or multiple sourcing is optimal. Another condition is obtained to determine the exact size of the optimal supply base, provided the mild requirement holds. With minor modifications, the results also hold when a buyer-initiated procurement contract can be used to elicit private information on the suppliers' unit variable production costs. (Keywords: Supplier selection, latent defects, quality cost, total cost of purchasing; JEL L22, L24, M11, M21, M40)

Wholesale Price Auctions for Dual Sourcing under Supply Risk

“…A latest example is Zhou, Tao, Zhang, and Cai (2016) who study a hybrid mechanism that combines a uniform-price reverse auction with flexible noncompetitive contracts; their mechanism awards multiple winners because each supplier only provides one unit, which is quite different from our dual-sourcing model where each supplier can provide multiple units and the buyer allocates quantities endogenously to mitigate supply risk. In fact, there are other operational reasons for splitting awards in reverse auctions, including suppliers' convex production costs (e.g., Tunca & Wu, 2009), capacity constraints (e.g., Chaturvedi, 2015), supplier retention (e.g., Chaturvedi, Beil, & Martínez-de-Albéniz, 2014), reducing external failure costs caused by defective products (e.g., Yim, 2014), or other given policies (e.g., Gupta, Chen, Dawande, & Janakiraman, 2015). Our study differs from the above papers in that the characteristic of dual-sourcing auction design is supply risk mitigation.…”

Sourcing assemble-to-order inventories under supplier risk uncertainty

“…The specific supply-defect risk addressed in these pages is relatively new to the literature. Whereas several recent studies have investigated the causes and consequences of defects (e.g., [7,5,40]), the only study treating defect as a supply risk and proposing diversification as a mitigating strategy is that of Yim [51]. Yim [51] proposed a multiple-supplier procurementallocation model that minimizes a risk-averse cost function that quadratically increases with the number of defects.…”

“…Whereas several recent studies have investigated the causes and consequences of defects (e.g., [7,5,40]), the only study treating defect as a supply risk and proposing diversification as a mitigating strategy is that of Yim [51]. Yim [51] proposed a multiple-supplier procurementallocation model that minimizes a risk-averse cost function that quadratically increases with the number of defects. Where a design error is responsible for defects, Kang et al [23] showed that the defect risk is exponentially amplified where a common design is shared among different products.…”

“…For manufacturers, product failure incurs significant quality costs in the forms of warranty repairs, recalls, or lost reputation [28], which can in fact be much larger than costs from unreceived orders. As Yim [51] and Kang et al [23] emphasized, supplier diversification is an effective strategy for mitigating this risk, since defects of components are correlated when they are supplied from the same supplier.…”

Connection Between the Number of Complaints About Welding Suppliers and End Product Quality: The Case of Customized Welding Production

“…Researchers' interest has also been drawn to complaints related to latent defects with no discovered reason [14], false failure returns [15] and the impact of supplier production rate on defects and production costs [16]. When studying human factors, Mateo et al [17], using production data, found that there is no significant relation between complaints and absenteeism, and Gajdzik and Sitko [18] found a relation between complaints and human errors in steel sheets manufacturing.…”