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Buy-Back Contracts Example

This document discusses a retail chain that sells seasonal swimsuits and must commit to production quantities months in advance based on demand forecasts. It considers different strategies for determining optimal order quantities under demand uncertainty and the potential for a buy-back contract between the retailer and supplier to better align incentives. Key factors analyzed include expected contributions and costs from over or understocking under different order quantities and contractual agreements between the parties in the supply chain.

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Priya
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435 views3 pages

Buy-Back Contracts Example

This document discusses a retail chain that sells seasonal swimsuits and must commit to production quantities months in advance based on demand forecasts. It considers different strategies for determining optimal order quantities under demand uncertainty and the potential for a buy-back contract between the retailer and supplier to better align incentives. Key factors analyzed include expected contributions and costs from over or understocking under different order quantities and contractual agreements between the parties in the supply chain.

Uploaded by

Priya
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOC, PDF, TXT or read online on Scribd
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Sample Problem on Managing Risk and Demand Uncertainty: Buy-back Contracts

for Short ife-Cycle Products


Consider a retail chain that sells summer fashion items such as swimsuits. About six
months before summer the company must commit itself to specific production quantities.
The company buys swimsuits from an overseas supplier at a cost of $80 each. The retail
price of the item during the summer season is $!". All unsold swimsuits at the end of
the season are sold at a discounted price of $!0 per unit. The company#s estimate of
demand can be described by the following probability distribution.
$emand 8000 0000 !000 %000 &000 8000
'robability 0. 0. 0.!8 0.!! 0.8 0.0
(a) $etermine the number of swimsuits the company should order to maximi*e its
contribution.
(b) +uppose that the company adopts the order quantity determined in (a).
(i) ,hat is the expected contribution-
(ii) ,hat is the expected number of units sold-
(iii) $etermine the expected value of lost sales- ,hat is the expected cost of
understoc.ing-
(iv) /ow many units of unsold inventory can the company expect at the end of summer-
And what is the cost of overstoc.ing-
(c) Consider the suppliers situation. The supplier#s variable cost is $0" per unit. ,hat is
the contribution to the supplier from the retailer#s order- ,hat is the net contribution to
the supply chain comprising of retailer and manufacturer-
(d) 1ow consider the supply chain as a whole and determine the optimal order quantity
for the supply chain- ,hat is the corresponding expected contribution to the supply
chain-
(e) The supplier is considering a buy2bac. offer to the retailer to encourage larger orders.
Assume that the supplier recovers the discount price of $!0 per unit for all unsold
swimsuits returned by the retailer. Also assume that the retailer and supplier share all the
relevant information.
(i) Assess the impact of a buy2bac. price of $"" on the order quantity and the relative
contributions to the supplier and the retailer.
(ii) $etermine the buy2bac. price (or a range) that will maximi*e the net contribution to
the supply chain.

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