Sourcing for quality: cooperating with a single supplier or developing two competing suppliers? (Q1792927)

Summary: Supplier efforts regarding product quality are an important issue in outsourcing and play a critical role in a manufacturer's choice of sourcing strategy. Consider a manufacturer that wants to outsource the manufacturing of two substitute products to external suppliers. This paper studies the strategic interactions under two sourcing strategies: single and dual sourcing. A four-stage noncooperative game model is established to describe each member's decisions. We further propose four decision scenarios: single sourcing with and without manufacturer quality investment sharing and dual sourcing when suppliers cooperate or do not cooperate on quality decisions. By the backward induction approach, we obtain analytical equilibrium solutions for each decision scenario. By comparing each pair of equilibrium profiles, we find that an appropriate proportion of quality investment sharing by the manufacturer can enable a cooperating strategy with a single supplier to be the dominant strategy. When the manufacturer does not want to share or does not want to share a relatively large portion of its supplier's quality investment, it will always prefer to develop two competing suppliers when the cost of dual sourcing is sufficiently low. However, dual sourcing can be extremely risky for the manufacturer because the suppliers could provide a relatively low product quality level by cooperating on the quality decision to extract the manufacturer's profit.