Pricing and revenue-based outsourcing strategies in a multi-echelon lot-sizing model under insufficient production capacity

This paper develops a generic model that helps in crucial decision making of pricing and revenue-focused outsourcing for a stock-out problem of a deterministic, multi-echelon inventory system for a global supply chain. The manufacturer is considered to have insufficient production capacity and has the option to outsource. The optimization technique results in a non-linear programming problem. We investigated the conditions under which an outsourcing decision made by a manufacturer, increases the profit of the retailer, distributor, manufacturer, and the multi-echelon system. Initially, the objective function (i.e., channel profit) is tested for optimality and an exhaustive search method is performed with a suitable example, which results in a solution to the problem. The thresholds of different price parameters such as retail price, outsourcing price, unit production cost, manufacturer’s offer price, and distributor price are also derived with an illustrative example. A decision-making framework is presented through an example which will help managers of a focal-manufacturing firm with insufficient production capacity in making optimum pricing and outsourcing decisions for maximizing channel profit.