Proactive and reactive purchasing planning under dependent demand, price, and yield risks

Abstract

The trend of globalization and outsourcing makes supply unreliable and companies begin to have supplier diversity embedded into their procurement departments. Traditionally, contract suppliers are a major supply channel for many companies, while the effectiveness of reactive supply sources, such as spot markets, is often ignored. Spot markets have negligible lead times and higher average prices comparing with contract suppliers. In our research, procurement utilizes the combinatorial benefits of proactive supply (a contract supplier) and reactive supply (a spot market). The uncertainties of yields, spot prices, and demand, and the correlations among them are also taken into consideration when designing procurement plans. The objectives of this paper were to evaluate the effectiveness of dealing with uncertain supply using the spot market along with the contract supplier and to model the dependences among all the potential uncertainties. This research also seeks high expected profits without overlooking the associated variances. The analytical expression to determine the optimal order quantity is obtained under the most general situations where commodities can be both bought and sold via the spot market. Some properties are derived to provide useful managerial insights. In addition, reference scenarios, such as pure contract sourcing and the spot market restricted for buying or selling only, are included for comparison purposes.