Quality investment in a decentralized assembly system with backward shareholding

Abstract

In recent years, more and more auto manufacturers have partnered with electric vehicle (EV) battery makers to jointly develop batteries with holding equity stakes in these suppliers. Motivated by the prevailing phenomenon, this study investigates an assembly system where n upstream suppliers produce complementary components and provide them to a downstream assembler. The assembler assembles all components into a final product and sells it to the quality-sensitive and uncertain market. The quality of the final product is closely related to that of each component, which can be improved by the assembler's investment. The assembler and the suppliers are linked by backward shareholding, which enables the assembler to share suppliers' profits. We first develop an analytical framework to study the pricing and production decisions of each supply chain player, and then explore the optimal investment strategy for the assembler in both push and pull assembly systems. Surprisingly, we find that a higher backward shareholding can not always motivate the assembler to invest more in component development. More specifically, in the push system, backward shareholding has no impact on the assembler's optimal investment strategy; while in the pull system, the assembler prefers to invest more resources to help suppliers improve their component quality. Furthermore, we show that all suppliers obtain the same expected profit in the push assembly system, but their profits are highly dependent on the product of their respective production costs and percentages of equity held by themselves in the pull assembly system.