The role of the procurement commitment contract in a low-carbon supply chain with a capital-constrained supplier

Abstract

We study a supply chain consisting of a retailer and a capital-constrained supplier that produces a single product with low-carbon attributes. To cater for the carbon trading market, i.e., in the cap-and-trade regulation setting, and consumers' low-carbon preference, the supplier may invest in carbon emissions reduction. Capital-constrained, the supplier raises funds from a competitive banking market to carry out its production, carbon abatement investment, and even insufficient emissions permits purchase. We study the impacts of the procurement commitment (PC) contract provided by the retailer on the economic and environmental performance of the supply chain. We first develop a Stackelberg game between the retailer and supplier, where the former as the leader decides the PC amount, and the latter as the follower chooses the output and carbon abatement level. We derive the equilibrium outcomes of the game under the scenarios without and with emissions-dependent demand. We find that the retailer will provide the PC contract only when the supplier's gross margin is less than a certain threshold, under which Pareto-improvement of the supply chain can be achieved. However, providing the PC contract will hamper the carbon abatement performance of the supply chain, in terms of the total carbon abatement or abatement per unit product. We further extend the pure PC contract to the cases with credit limit or carbon abatement target, respectively. We find that if the bank sets a credit limit for the supplier based on the value of the retailer's PC contract, the retailer will always provide the contract to enhance the supplier's financing and production capacity, regardless of the supplier's gross margin, and such a contract exhibits a similar economic and environmental role as that in the case with no credit limit. However, if the retailer imposes a specified carbon abatement target on the supplier as a precondition of providing the PC contract, the contract may achieve coordinated improvement of the economic and environmental benefits of the supply chain. We also extend the problem to an “investment-then-contract” case, in which the supplier chooses the carbon abatement level before both parties make the quantity-related decisions, and we find that the retailer's PC contract will not change the supplier's carbon abatement decisions in both cases without and with consumers' green preference, and it only functions to stimulate the supplier's output under certain circumstances.