Supply chain coordination contracts with free replacement warranty
Authors:   , Hu Wan-ting , Banerjee Avijit , Kim Seung Lae 
Published: July 2021

This thesis investigates a coordination mechanism for a supply chain with one manufacturer and one retailer in a single period, single product newsvendor model. It looks beyond the conventional supply chain coordination problem by incorporating a specific form of warranties. The manufacturer provides a free replacement warranty in case of product failure within a specified after-sale interval. We assume that the expected value of stochastic market demand is an increasing function of this warranty period length. The supply chain is coordinated if its optimal actions (production quantity and warranty length) are realized while each party maximizes its own respective profit. Any deviation by either party from the terms of a coordinated contract cannot improve its performance. We consider different types of contracts between the two parties: a wholesale price only or a revenue sharing contract with shared warranty costs or such costs borne by the manufacturer alone. The manufacturer decides the warranty period, K, and other contract parameters, such as the wholesale price, shares of revenue, and warranty cost sharing arrangements. The retailer accepts the contract and determines the order amount, as long as it is able to make positive profit. The manufacturer then produces and delivers the order quantity for the selling season. Each party makes its decisions to maximize its own profit, hence the realized decisions may differ from the supply chain's optimal solutions, if the contract is not coordinated. Thus, we examine whether the supply chain can be coordinated under each type of contract outlined above. For coordinated contracts we focus on the issue of profit allocation. If a contract type is non-coordinating, we attempt to highlight the factors that affect its efficiency, where the efficiency of a non-coordinating contract is defined as the ratio of realized supply chain profit over its optimal profit. The results obtained from this research leads to some interesting managerial insights. Under the wholesale price only contract types, we find that even if the retailer is willing to share the warranty fulfillment costs with the manufacturer, the resulting supply chain profit is less than the optimal value, leading to suboptimal performance. Under a revenue sharing contract, however, the production/ order quantity and the warranty length are coordinated, if the warranty costs are shared by the two parties in the same proportion as the profits. The profit allocation of each party under coordination is flexible from 0 to 100% of chain profit. This concept is illustrated by a numerical example of additive demand case followed by an extensive sensitivity analysis, which leads to some important insight. The major contribution of this thesis is its novel aspect of considering warranty period optimization towards supply chain coordination. We provide the guidelines for designing a contract between a manufacturer and a retailer so that the supply chain's performance is optimized in terms of the production/ order quantity and the warranty period, while each party in the chain achieves its maximal profit. Without the presence of a third party, the contract coordinates the supply chain with less cost. A non-coordinating contract may still be desirable if it entails relatively low administrative cost while achieving a high degree of efficiency, as defined before. The concepts developed here are easy to implement in real world supply chain, and can provide valuable insights into more complex types of supply chain contracts.