Drop-Shipping and Backup-Sourcing Strategies Under the Risk of Supply Disruption

Abstract

In recent years, an increasing number of e-retailers have adopted drop-shipping strategy to save logistics costs, and used backup-sourcing strategy to mitigate supply risks. However, the existing literature ignores the significant relationship between the two strategies. In this study, we develop a multistage game-theoretical model to investigate the optimal procurement decisions for an e-retailer who can activate both drop-shipping and backup-sourcing strategies. Specifically, our model considers the e-retailer sourcing some units of a product from a supplier to meet the random demand of online customers. The units of the product are held by the supplier, and then are directly shipped to the customers from the supplier side (i.e., drop-shipping strategy). However, there is disruption risk for the supplier; thus, after the randomness of the supplier is realized, the e-retailer can urgently order some units of the product from an expensive but perfectly reliable outside option (i.e., backup-sourcing strategy). We examine the optimal order decisions of the e-retailer and the optimal wholesale price decision of the supplier. Our study shows that for the retailer, the activation of both backup-sourcing and drop-shipping strategies increases its profit, and there is substitutability between the two strategies. For the supplier, the implementation of the drop-shipping (backup-sourcing) strategy increase (decreases) its profit, but the drop-shipping and backup-sourcing are complementary strategies. For the supply chain, when the logistics cost is low or high and the backupsourcing cost is low, the backup-sourcing and drop-shipping are complementary strategies, whereas in other cases, they are substitutive strategies. Our study not only brings some academic contributions to supply chain management, but also provides significant management insights for the operational practice in terms of drop-shipping and backup-sourcing.INDEX TERMS Supply Chain Management; Drop-shipping; Backup-sourcing; Supply Risk I. INTRODUCTIONA variety of emergencies, such as natural disasters, political unrest, terrorist attacks, worker strikes, technical failures, financial problems, and shortage of raw materials, etc., may pose supply disruption [1-3], [38]. Compared with traditional industries, the e-commerce industry is more vulnerable to the risk of supply disruption due to the greater globalization and looser management of supply chains [4].

Managing Supply Disruption by Horizontal Cooperation

“…Tang and Kouvelis used the payback revenuesharing contract to coordinate a supply chain with uncertain supply and deterministic demand [24]. Zeng et al developed multistage game-theoretical model to investigate the optimal procurement decisions for an e-retailer who can activate both drop-shipping and backup-sourcing strategies [25]. Kang et al analyzed an expected profit model for a manufacturer's decision, in a dual-channel supply chain, to purchase cargo transportation insurance against transport disruptions [26].…”

The Role of Drop Shipping in E-Commerce

“…The drop-shipping operation has been adopted by more and more internet retailers. The biggest advantage of drop-shipping is that inventories are centralized at the supplier (Zeng et al 2020;Gan et al 2010). For (Peinkofer et al 2018), the use of drop-shipping strategies is the practice where end-consumer orders are fulfilled directly from upstream suppliers upon a retailer's request, which has grown in popularity.…”