The optimal use of standby suppliers: A decision-analysis approach

Today's supply chains are becoming not only more efficient, with the aid of advanced information technologies, but also riskier, due to the tight interconnectedness of numerous chain links that are prone to breakdowns, disruptions, bankruptcies or disasters. Although many studies focusing on business risks in various contexts have been presented in the literature over the years, research effort devoted to understanding the risks associated with suppliers, outsourcing and the supply market has been limited, especially from a quantitative point of view. A company must of course pay for the use of a standby supplier but, much like an insurance policy, this often can be a prudent approach. The extra cost will be paid out all the time, while the benefits of the standby supplier will not be utilised the majority of time. However, when needed, the benefits of the standby supplier may be so critical that it more than pays for itself to have a standby supplier available. The decision model that we discuss in this paper addresses when is it appropriate to employ a standby supplier and how many standby units should be established by contract. In the past the military, as well as health-care facilities, have taken such an approach, although usually only by instinct. However, we now believe that this concept should be considered more broadly and approached more rigorously. The goal of this paper is to present a step in that direction.