Payment Timing in Multiechelon Supply Chains: Cost Assessment, Incentives, and Coordination

Abstract

Advanced information technologies are increasing the variety of payment triggers between supply chain stages. The cost assumptions made by standard multiechelon inventory models, however, do not have the flexibility to account for these rapid changes. We take one step towards closing this gap by focusing on common payment triggers used with wholesale prices. We introduce a notation system to explicitly connect physical and financial flows so that payment streams can be expressed as functions of standard physical inventory metrics. We then derive a new cost formulation that captures the financial inventory cost implications of such payment streams. These tools are powerful because they dramatically increase the usability and adaptability of existing multiechelon inventory models, under both traditional and more general payment terms. To illustrate, we apply these methods to derive insights on three supply chain topics in a two-echelon base stock model. First, we examine how wholesale prices affect competitive inventory policies and supply chain efficiency under standard payment terms – showing that the cost of decentralization is not only due to too little inventory at the retailer, but also to too much inventory at the supplier. Second, we explore consignment as a possible coordination mechanism – showing that full consignment causes the supplier to overly restrict the inventory at the retailer, but partial consignment can achieve coordination. Third, we study the impact of unequal costs of capital between supply chain members - providing insight into when extending lower capital cost rates to supply chain partners is beneficial.