Contract design in reverse recycling supply chain with waste cooking oil under asymmetric cost information

Abstract

Waste cooking oil without proper treatment brings serious environmental and health hazards, which can be mitigated by converting waste cooking oil into bio-fuel. In a supply chain of waste cooking oil recycling, an independent recycler collects waste cooking oil and trades with a bio-firm who carries out conversion to produce bio-fuel and then get profit. Since the unit recycling cost of the recycler remains private, this paper compares two possible contracting mechanisms for the bio-firm, a principal-agent contract or a quantity discount contract, to deal with such information asymmetry or stimulate the recycler's recycling investment. Optimal contract settings for the bio-firm and the recycler's response of recycling investment level are derived. Also, each firm's contract preferences are investigated. Main results indicate that when the average recycling cost or the uncertainty level of cost information is relatively low, the bio-firm is better off to choose a quantity discount contract while the recycler prefers the principal-agent contract. If either factor is of a moderate level, the quantity discount contract dominates by benefiting both the bio-firm and the low-cost recycler. With either high average cost or uncertainty level, the bio-firm and the high-cost recycler would welcome a principal-agent contract. Besides, the principal-agent contract induces more waste cooking oil to be recycled and is more environmental-friendly than the quantity discount contract.