Optimizing Customer Forecasts for Forecast-Commitment Contracts

• Published in: Production and operations management 2011-09, Vol.20 (5), p.681-698
• Main Authors: Durango-Cohen, Elizabeth J., Yano, Candace A.
• Format: Article
• Language: English
• Subjects: Commitments; Contracts; Customer services; Fines & penalties; Flexibility; Forecasts; Frequent flier programs; Operations research; purchase commitment; quantity flexibility; strategic customers; Studies; Suppliers; supply chain coordination; Supply chain management; Supply chains; supply contracts
• ISSN: 1059-1478; 1937-5956
• DOI: 10.1111/j.1937-5956.2010.01199.x

We study a “Forecast‐Commitment” contract motivated by a manufacturer's desire to provide good service in the form of delivery commitments in exchange for reasonable forecasts and a purchase commitment from the customer. The customer provides a forecast for a future order and a guarantee to purchase a portion of it. In return, the supplier commits to satisfy some or all of the forecast. The supplier pays penalties for shortfalls of the commitment quantity from the forecast, and for shortfalls of the delivered quantity from the customer's final order (not exceeding the commitment quantity). These penalties allow differential service among customers. In Durango‐Cohen and Yano (2006), we analyzed the supplier's problem for a given customer forecast. In this paper, we analyze the customer's problem under symmetric information, both when the customer is honest and when he strategically orders more than his demand when doing so is advantageous. We show that the customer gains little from lying, so the supplier can use his control over the contract parameters to encourage honesty. When the customer is honest, the contract achieves (near‐)coordination of the supply chain in a great majority of instances, and thus provides both excellent performance and flexibility in structuring contracts.