“Procurement Mechanism Design for an Assembler under Asymmetric Information” by Dr. Daewon Sun
Dr. Daewon Sun
Associate Professor of Department of Management
Mendoza College of Business
University of Notre Dame
This paper considers the design of a procurement mechanism for an assembler who sells a final product consisting of multiple components, each produced by a different supplier, where each supplier possesses private information regarding his production cost. We propose a mechanism that is incentive compatible in dominating strategies (ICDS) to maximize the assembler’s expected profit by ensuring that every supplier will truthfully reveal their own production cost, regardless of what the other suppliers might do. We describe the complete solution approach for this problem and fully characterize the optimal ICDS mechanism. We find that the optimal procurement quantities are balanced, thus eliminating the waste that would result from unbalanced order quantities. We then compare our proposed mechanism to an existing mechanism from the literature. We find that our proposed mechanism, although more complex to implement, can significantly improve the assembler’s expected profit. Finally, in order to ease the implementation of our proposed mechanism, we propose a hybrid mechanism, under which the complexity of the contract offered to a given supplier is dependent on the importance of that supplier to the assembler’s overall profit. We use a set of numerical experiments to demonstrate that, in many cases, this proposed hybrid mechanism can provide performance close to that of the optimal mechanism and can significantly outperform the existing mechanism from the literature. Finally, we characterize conditions under which using the optimal ICDS mechanism provides the most value.