Consignment and turnkey sourcing and outsourcing analysis for a three-player supply chain in various power dynamics

Abstract

This paper investigates a supply chain consisting of three-players; an original equipment manufacturer (OEM), a contract manufacturer (CM), and a supplier. Using Cournot competition, we study the outsourcing decision between the OEM and the CM, both competing in the same market. We provide the optimal solutions and outsourcing strategies from which all three players may choose under various power dynamics. We identify Win-Win conditions in which both the OEM and the CM benefit, and Win-Win-Win conditions that all players benefit from outsourcing. If CM's product is a partial substitute to OEM's product, we find that the OEM always prefers consignment, and the CM prefers turnkey when the CM determines the outsourcing cost. However, when the OEM determines the outsourcing cost, counter-intuitive results may occur: the OEM prefers turnkey, and the CM prefers consignment are presented. Also, when the OEM determines the outsourcing cost, the CM's profit is capped at a level that the OEM is willing to share. But when the CM determines the outsourcing cost, the OEM can counteract to CM's outsourcing cost. While the supplier is always worse off in turnkey, the total profit of the supply chain is always worse off in turnkey when the outsourcing cost is determined by the CM (but not by the OEM). Numerical analysis and lemmas provide managerial insights on how a certain sourcing strategy is chosen by the OEM or the CM due to dynamics between optimal outsourcing cost, component price, and quantity decisions.