SETTING THE SCENE
A buyer needs to outsource a component for one of his products. We assume this component is the only contributor to cost for the buyer. Once the product is manufactured, it is sold to customers at a price p.
- The demand for the product, and thus for the quantity of components needed, is not known at the planning/outsourcing stage.
- The buyer must decide on the purchasing of components with some information only about the distribution of demand
- To obtain the flexibility needed by the buyer, an auction is organized with the following format.
Each supplier’s bid will consist of two parameters:
- a unit reservation fee, or premium, that will be charged for every unit of capacity reserved by the buyer
- a unit execution fee, or strike, that will be charged for every component requested by the buyer after demand is revealed.
- Given bids from each participant in the auction, the buyer reserves capacity at each supplier.
- Some time later, demand becomes known, and the buyer meets it with the available capacity in his/her portfolio. Of course, they will start using the suppliers with smaller execution price and, as capacity in the cheaper sources is exhausted, will move to suppliers with more expensive execution prices.
The instructor plays the buyer
The students play the suppliers
At the creation of the auction, the instructor needs to specify:
- the number of suppliers present in the auction;
- the number of rounds that will take place;
- the duration between rounds (e.g. 10 minutes).
We will normalize the selling price p=100 and the cost parameters of each supplier will be selected so as every supplier has the opportunity to make some profit.
Given these parameters, each (group of) student(s) is confronted with the problem of bidding a reservation price r and an execution price e. For this purpose, they can use a simulator where they can test their payments, i.e. the expected profit [the simulator uses the information on everyone’s cost parameters, together with the demand distribution].
The specific difficulty at this stage is that they do not know what the other suppliers will bid. In any case, they can use information about the competitors’ previous bids and costs.
Once the group is ready, it submits a bid to the buyer.
At the closing of the round, the bids of every supplier are revealed to all and either a new round starts or the auction stops, capacity is allocated to every supplier and the expected payments to each supplier are computed.