On the loss-averse dual-sourcing problem under supply disruption

Abstract

Supply disruption is a common phenomenon in industry, and loss-aversion has been recognized as an inherent behavior for decision makers. This paper combines these two factors by considering a loss-averse firm facing a random demand and sourcing from two suppliers. One supplier is cheaper but subject to potential disruption possibility, while the other one is reliable but more expensive to purchase from. We establish a stochastic programming to maximize the expected utility under loss-aversion criterion, and characterize the optimal solutions of the order quantities submitted to the two suppliers. It is found that the unreliable supplier is always used with positive order quantity due to its economical advantage, while the reliable supplier can be useless under some condition. We conduct computational experiments which illustrate that the optimal order quantity from the unreliable supplier, as a main supply source, may manifest a distortion from that under risk neutrality. In addition, we investigate the scenario of sequential ordering and formulate the problem as a two-step stochastic dynamic programming. We prove that the order strategy in this scenario can be characterized by two single-sourcing optimal order points, and provide numerical results on parameter sensitivities of the value of flexibility given by the sequential ordering opportunity.