Order Timing for Manufacturers with Spot Purchasing Price Uncertainty and Demand Information Updating

Abstract

In this paper we study the competitive order timing decisions of two manufacturers with demand forecasting updating and uncertain raw material price. Manufacturers can order the raw materials early when the market is highly uncertain with a fixed wholesale price (Contract procurement) or late when the market is less uncertain with an uncertain raw material price (Spot trading). Different from most existing literature, we assume the spot price and the market demand is correlated. We find that in the monopoly setting the manufacturer prefers the contract procurement to the spot trading when the unit wholesale price for the contract procurement is not greater than the expected unit spot price of the raw material. In the duopoly setting, we characterize the equilibria of a strategic order timing game in which manufacturers choose when to buy the raw materials. We find that when the demand during the contract procurement stage and the spot price uncertainty is small both manufacturers prefer the contract procurement strategy and when the demand during the contract procurement stage and the spot price uncertainty is large both manufacturers prefer the spot trading. When the demand during the contract procurement stage and the spot price uncertainty is high and purchase costs do not decline too severely over time, the unique equilibrium of this game is that one manufacturer chooses contract procurement to order early and the other chooses spot trading to order late. Further, we find that the correlation of spot purchasing price and the market demand signal during the contract procurement stage will weaken the advantages of spot trading strategy. When the spot purchasing price and the market demand signal during the contract procurement stage are not correlated, manufacturers prefer spot trading under the highly volatile spot trading price, fluctuating demand, and high information precision.

Keywords

Procurement / order timing / competition / uncertainty / game theory

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