Optimal Procurement Design in the Presence of Supply Risk

This paper analyzes optimal auction design when delivery of supply is uncertain. We consider a buyer facing multiple potential suppliers, each having an associated (exogenous) reliability that quantifies its risk of supply failure. We design optimal mechanisms that depend on the buyer's level of information regarding the suppliers' cost of production and reliability. When supplier reliability is known, we find that the optimal allocation resembles the allocation under full information, but with inflated production costs. When it is unknown, the same result is true when cost and reliability of a supplier are independent. Furthermore, the buyer does not have to pay any rent for information on suppliers' reliability. Moreover, we assess the benefits of the optimal mechanism compared to traditional auctions that ignore supply risk.auctions, supply risk, information asymmetry

Split Award Auctions for Supplier Retention

To stay abreast of current supply-market pricing, it is common for procurement managers to frequently organize auctions among a pool of qualified suppliers (the supply base). Sole awards can alienate losing suppliers and cause them to defect from the supply base. To maintain the supply base and thereby control the high costs of finding and qualifying new suppliers, buyers often employ split awards, which in turn inflate purchase costs. This results in a trade-off that we investigate in an infinite-horizon stationary setting in which the relative cost position of each supplier is randomly drawn in every period. We characterize the optimal split award that minimizes long-run costs (purchasing and qualification) and show that maintaining a constant supply-base size—using a “qualify-up-to” policy—is optimal for the buyer. We find that neither the extent of multisourcing nor the buyer's value of split awards compared with winner-take-all auctions are monotonic in the qualification cost and that split-award auctions can increase ex ante system, buyer, and supplier benefits simultaneously. To our knowledge, this is the first paper studying split-award auctions for supply-base maintenance, and it will hopefully galvanize further research on this important topic. This paper was accepted by Yossi Aviv, operations management. </jats:p