Global dual sourcing: tailored base surge allocation to near and offshore production

When designing a sourcing strategy in practice, a key task is to determine the average order rates placed to each source because that affects costs and supplier management. We consider a firm that has access to a responsive near-shore source (e.g., Mexico) and a low-cost offshore source (e.g., China). The firm must determine an inventory sourcing policy to satisfy random demand over time. Unfortunately, the optimal policy is too complex to allow a direct answer to our key question. Therefore, we analyze a tailored base-surge (TBS) sourcing policy that is simple, used in practice, and captures the classic tradeoff between cost and responsiveness. The TBS policy replenishes at a constant rate from the offshore source and produces at the near shore plant only when inventory is below a target. The constant base allocation allows the offshore facility to focus on cost efficiency while the nearshore’s quick response capability is utilized only dynamically to guarantee high service. The research goals are to i) determine the allocation of random demand into base and surge capacity, ii) estimate corresponding working capital requirements, and iii) identify and value the key drivers of dual sourcing. Given that even this simple TBS policy is not amenable to exact analysis, we investigate a Brownian approximation that yields a simple “square-root ” formula that is insightful to answer our questions and sufficiently accurate for practice, as is demonstrated with a validation study