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Risk hedging via option contracts in a random yield supply chain

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  • Jiarong Luo

    (University of Electronic Science and Technology of China)

  • Xu Chen

    (University of Electronic Science and Technology of China)

Abstract

This article investigates the role of option contracts in a random yield supply chain in the presence of a spot market. Considering a single-period supplier-manufacturer system where the supplier with random yield produces key components for the manufacturer and the manufacturer assembles/processes the components into end products to meet a deterministic market demand, we develop game models to derive the manufacturer’s optimal ordering policy and the supplier’s optimal production policy under two contract mechanisms (with and without option contracts). Our results suggest that option contracts can coordinate the manufacturer’s order quantity as well as the supplier’s production quantity, and eventually achieve optimal supply chain performance, i.e. the random yield supply chain can be completely coordinated with option contracts in our setting. However, our study also reveals that the supplier and the manufacturer are not always better off with option contracts than without. Therefore, the conditions on which Pareto-improvement is achieved are provided in this paper. Finally, by adopting numerical examples, we draw additional managerial insights into managing random yield supply chains in the presence of spot market.

Suggested Citation

  • Jiarong Luo & Xu Chen, 2017. "Risk hedging via option contracts in a random yield supply chain," Annals of Operations Research, Springer, vol. 257(1), pages 697-719, October.
    • Handle: RePEc:spr:annopr:v:257:y:2017:i:1:d:10.1007_s10479-015-1964-8
    DOI: 10.1007/s10479-015-1964-8
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    2. Gongli Luo & Xiaoqing Liu & Felix T. S. Chan, 2023. "Optimal Ordering Decisions in Portfolio Procurement Considering Spot Price Fluctuation," Sustainability, MDPI, vol. 15(14), pages 1-13, July.
    3. Sheng‐Tun Li & Kuei‐Chen Chiu & Chien‐Chang Wu, 2023. "Apply big data analytics for forecasting the prices of precious metals futures to construct a hedging strategy for industrial material procurement," Managerial and Decision Economics, John Wiley & Sons, Ltd., vol. 44(2), pages 942-959, March.
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    6. Wang, Chong & Chen, Jing & Chen, Xu, 2019. "The impact of customer returns and bidirectional option contract on refund price and order decisions," European Journal of Operational Research, Elsevier, vol. 274(1), pages 267-279.
    7. Choi, Tsan-Ming & Wen, Xin & Sun, Xuting & Chung, Sai-Ho, 2019. "The mean-variance approach for global supply chain risk analysis with air logistics in the blockchain technology era," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 127(C), pages 178-191.
    8. Alireza Bakhshi & Jafar Heydari, 2023. "An optimal put option contract for a reverse supply chain: case of remanufacturing capacity uncertainty," Annals of Operations Research, Springer, vol. 324(1), pages 37-60, May.
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