Finance and Supply Chain Management : Coordination of a Dyadic Supply Chain through Application of Option Contracts

The purpose of this dissertation is to study the relationship between dyadic supply chain flexibility and dyadic supply chain profitability. In today’s global environment, competition is no longer limited to companies but has evolved to supply chains. Supply disruption, lead time uncertainty and stochastic demand can result in costly inefficiencies of up to 40% when companies are trying to coordinate ordering and production. A dyadic supply chain competing in a global economy cannot afford to end up with a 40% smaller share of the pie. This thesis applies theory and instruments from finance, specifically portfolio theory and real options theory when applying option contracts to create flexibility in a dyadic supply chain. The methodology applied was to conduct an initial literature review of prior research to establish research gaps (first paper). This resulted in the development of an algorithm (second paper) combining the base stock model and the option mechanism to create flexibility for an OEM and supplier to coordinate ordering and production bilaterally in a multi-period setting. In the third paper the algorithm was applied to a case study using data from two companies, which resulted in the algorithm being tested and validated. Furthermore, option contract theory was integrated with dyadic supply chain practise while Fisher portfolio paradox was addressed. The dissertation contributes in the following areas: the empirical contribution is evidence of the relationship between dyadic supply chain flexibility and profitability using quantitative data from two companies. The methodological contribution is a method for the objective valuation of dyadic supply chain flexibility and the measurement of profitability, by valuing the option contract. The theoretical contribution is achieved through the integration of portfolio and option theory into SCM while addressing Fisher’s portfolio paradox. The practical contribution is an algorithm that creates flexibility for an OEM and asupplier to coordinate ordering and production bilaterally and maintain its collaborative advantage when competing in a global economy, thus avoiding ending up with a 40% smaller share of the pie. In addition, this dissertation advances this topic in SCM into a quantitatively measurable theory