Computers & Industrial Engineering 63 (2012) 58–74

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Computers & Industrial Engineering

journal homepage: www.elsevier.com/locate/caie

Contract analysis: A performance measures and profit evaluation within

two-echelon supply chains q
Kannan Govindan a,⇑, Ali Diabat b, Maria Nicoleta Popiuc a
a
Department of Business and Economics, University of Southern Denmark, Odense 5230, Denmark
b
Engineering Systems and Management, Masdar Institute of Science and Technology, Abu Dhabi, United Arab Emirates

a r t i c l e i n f o a b s t r a c t

Article history: Coordination is regarded as key in managing dependencies between distinctive members of a supply chain
Received 29 December 2010 through the benefits of coordination mechanisms. Such coordination mechanisms are contracts, imple-
Received in revised form 28 December 2011 mented to increase total supply chain profit, reduce costs and share risk among supply chain members.
Accepted 17 January 2012
However, by contract implementation the retailer is constrained in his purchase by bearing the entire risk
Available online 30 January 2012
of holding the inventory (wholesale price contract) or by limited risk allocated to the supplier (buyback,
revenue sharing and quantity flexibility contracts). By implementing an advanced purchase system the
Keywords:
risk of inventory is fairly divided between the supplier and the retailer. In order to observe inventory
Supply chain coordination
Contract
implications on the supply chain bottom line, this article is directed towards the evaluation of perfor-
To-level supply chain mance measures and supply chain profit behavior under buyback, revenue sharing, quantity flexibility
and advanced purchase discount contracts versus no coordination and wholesale price systems.
Ó 2012 Elsevier Ltd. All rights reserved.

1. Introduction
Managing the interdependencies among supply chain members
can be a very challenging task. One solution for coordination prob-
lems involves coordination mechanisms, applied in both theory
and practice. Contracts are a particular form of coordination mech-
anism designed to improve supply chain performance by increas-
ing the total profit of the chain, and reducing risk by dividing the
risks fairly among the members of the supply chain. The risks re-
ferred to are specific to the terms identified by the parties involved
in the contract. However, current contracting literature is limited
in addressing the issue of inventory management and inventory
risk allocation as important supply chain considerations. While
buyback, revenue sharing, and quantity flexibility seem to offer
some risk allocation to the supplier, the efficiency of implementing
coordination contracts has been exaggerated by the contracting lit-
erature because coordinating contracts are, according to Cachon
(2004), ‘‘often compared against an inappropriate benchmark
(often just a push contract).’’ Furthermore, in relation to the alloca-
tion of inventory risk in a supply chain, Cachon (2004) classifies
coordination contracts in three broad categories:
– Pull contracts, where the supplier takes the risk of holding the
inventory by supplying the goods during the selling season as
demand is observed (the case of vendor managed inventories)
and
– Advanced purchase discount contracts (APD), where the inven-
tory risk is shared between the members: the retailer bears the
risk of any purchased but unsold items, and the supplier bears
the risk of unsold inventory.
This article contributes to the literature by evaluating the per-
formance improvement of the supply chain as a whole under the
applicability of different contractual terms.
The rest of the article is structured as follows. Section 2 presents
the literature review in terms of push, pull, APD, and coordinating
contracts, while Section 3 presents the novelty aspect of the
research. The analytical model is visualized in Section 4 with a par-
ticular focus on supply chain members’ profit functions. In order to
emphasize the distinctions among the cases under research, a sim-
ulation based numerical example is considered in Section 5. The
final section summarizes the outcome of the research and draws
general conclusions.

– Push contracts, where the retailer takes the risk of holding the
inventory by placing his order before the selling season (the
case of wholesale price contract).
q
This manuscript was processed by Area Editor Mohamad Y. Jaber.
⇑ Corresponding author. Tel.: +45 6550 3188; fax: +45 6550 3237.
E-mail address: gov@sam.sdu.dk (K. Govindan).
2. Literature review
With a groundwork in game theory and the newsvendor model,
numerous contractual models have received attention from
researchers. Starting from the classification of contracts as sug-
gested by Cachon (2004) into push, pull, and APD, contracting

0360-8352/$ - see front matter Ó 2012 Elsevier Ltd. All rights reserved.
doi:10.1016/j.cie.2012.01.010
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74
literature can be divided into three categories according to the ap-
proach towards inventory risk allocation, as visualized in Fig. 1.
Each of these categories has its own defining characteristics as
presented in the following.
2.1. All the risk allocated to the retailer (push models)
With the supplier producing and selling the optimal order
quantity before the start of the selling season and with no return
possibilities for the retailer, the wholesale price contract allocates
all inventory risk to the retailer. Among the papers that study
wholesale price models, Dong and Zhu (2007) focus their attention
on inventory ownership and inventory availability within the sup-
ply chain, and Sabbaghi, Sheffi, and Tsitsiklis (2007) look at how
inventory availability and capacity constraints influence wholesale
price. Other recent approaches to wholesale price contracts may be
found in Chen and Li (2007), Jinghong and Dingti (2008), and Shin
and Tunca (2010).
2.2. All the risk allocated to the supplier (pull models)
As opposed to push contracts, under vendor managed inven-
tory settings (VMI), the retailer pulls units from the supplier
through multiple replenishment orders, shifting all inventory risk
to the supplier. Articles that study the implications of VMI mod-
els on supply chain performance include Dong and Xu (2002),
with a focus on prices, inventory, and quantities in relation to
economic order quantity, and Nachiappan and Jawaher (2007)
on transaction quantity and channel profit optimization. Exten-
sions of the model under various decision making strategies be-
tween retailer and vendor are presented by Fang, So, and Wang
(2008), Gümüs, Jewkes, and Bookbinder (2008), and Xu and
Leung (2009).
2.3. Shared risk between retailer and supplier
Under this category we can distinguish between two different
approaches to inventory risk allocation based on the risk taken
Fig. 1. Contracting literature classification based on inventory risk allocation. The
coordination contracts considered for review are wholesale price, buyback, revenue
sharing, and quantity flexibility as the most analyzed contracts within the
literature. All other coordination contracts are of equal importance but they do
not represent interest for the study in case and, consequently, will not be discussed
here.
59
by the supplier. From coordination contracts and APD observa-
tions, the supplier may directly or indirectly manage the risk of
inventory. Because of the hybrid nature of shared risk, this cate-
gory benefits from further analysis.
2.3.1. Indirect risk taken by the supplier
These contracts imply the supplier selling to the retailer at a
predefined wholesale price with only one replenishment opportu-
nity before the start of the selling season. The risk of inventory is
allocated as follows:
– Under buyback contract, the retailer takes the risk of inventory
by purchasing units up to an optimal order quantity. At the end
of the selling season, the supplier takes responsibility for any
remaining inventory by buying back leftover units from the
retailer. The risk taken by the supplier in this case is indirect
because the goods purchased and held by the retailer are sub-
ject to damage, affecting the buyback quantity and value. Buy-
back considerations are discussed in He, Chin, Yang, and Zhu
(2006), Hou, Zeng, and Zhao (2010), and Höhn (2010).
– By selling the units at a discounted price and by agreeing to
receive a fraction of the retailer’s revenue, under a revenue
sharing contract the supplier indirectly takes the risk of unsold
inventory. In other words, he will not receive any benefit from
the retailer for the unsold items as imbursement for selling at
a discounted price. Approaches about revenue sharing contracts
are presented by Dong and Li (2009), Giannoccaro and Pontran-
dolfo (2004), and Koulamas (2006).
Further approaches to simple coordination and coordination
by contracts may be found in Cachon (2003, 2004), Malone and
Crowston (1994). General reviews of coordination contracts may
be found in Gomez-Padilla, Duvallet, and Llerena (2005), Lariviere
(1999), Tsay, Nahmias, and Agrawal (1999) and more recently in
Jaber and Zolfaghari (2008) with a focus on quantitative models
for centralized supply chain coordination and inventory manage-
ment. Albrecht (2010) and Höhn (2010) discuss general classifica-
tions of contracts, and Kannan and Popiuc (2011) focus on
coordination contracts and models on both forward and reverse
supply chains.
Attempts to evaluate coordination by comparing contracts are
brought to the literature by Gerchak and Wang (2004) on revenue
sharing versus wholesale price (push contract), Cachon and Larivi-
ere (2005) and Wang and Webster (2007) on buyback and revenue
sharing, and Höhn (2010) on buyback and quantity flexibility. Fur-
thermore, Arshinder, Kanda, and Deshmukh (2009a, 2009b) offers
an evaluation study of wholesale price, buyback, revenue sharing,
and quantity flexibility performance measures in relation to the
decentralized supply chain in a two-level setting. Arshinder et al.
(2009a) also presents the evaluation of wholesale price, buyback,
and quantity flexibility in relation to the decentralized case in
three-level supply chains.
2.3.2. Direct risk taken by the supplier
As opposed to buyback and revenue sharing, with a quantity
flexibility or APD contract, there is some inventory stored at the
supplier for replenishment in case of high demand during the sell-
ing season. The risk of inventory is allocated as follows:
– With a quantity flexibility contract, the retailer takes the risk of
the inventory ordered before the start of the selling season
(lower than optimal order quantity) while the supplier takes
the risk of storing remaining units (up to optimal order quan-
tity). Detailed studies of quantity flexibility contracts may be
found in Bassok and Anupindi (2008), Li, Lian, and Zhou
(2010), and Tsay and Lovejoy (1999).
60 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74
– APD setting implies that the supplier offers the goods at a lower
wholesale price before the start of the selling season, providing
the retailer an incentive to purchase more and to increase its
risk of inventory. If the retailer has some storage capacity, he
will assume the risk of holding units in stock for replenishment
during the selling season and for any leftover inventory. These
units held by the supplier are provided to the retailer at a
wholesale price higher than the initial price.
Numerous studies combine and compare coordination con-
tracts with VMI. For instance, Gerchak and Wang (2004) shows
that VMI with revenue sharing offers higher performance improve-
ment than VMI with wholesale price and VMI alone. Kraiselburd,
Narayanan, and Raman (2004) makes a parallel among retailer
managed inventory (RMI) and VMI, proving that VMI can perform
better than RMI when the supplier can influence demand with a
contract or when the customers are loyal to the product. Other
studies that scrutinize push, pull, and hybrid contracts are pre-
sented by Darwish and Odah (2010), Dong and Zhu (2007), and
Wang (2009).
3. Research highlights
In relation to the literature classification proposed in the previ-
ous section, a large volume of work treats individual contracts or
combinations of different contracts. However, a limited body of
work has been found to treat most or all contractual models by
comparison (i.e. Arshinder et al. (2009a, 2009b)), in the sense that
comparing different types of contracts brings about the possibility
of studying the implications on overall supply chain performance.
For this purpose, with focus on push and hybrid contracts, the
objectives of this article are to:
Fig. 2. Proposed model for analysis. This proposed model represents an extension of the model presented in Arshinder et al. (2009a) with the addition of APD contracts to the
analysis.
– Investigate the performance improvement of push and hybrid
contractual models in relation to the non-coordinated case
(decentralized supply chain) by performance measures and
profit evaluation.
– Verify the statement made by Cachon (2004) (exaggerated
efficiency of coordination contracts) by comparing the perfor-
mance measures and profit evaluation of (1) hybrid models with
push contracts and (2) coordination contracts with APD settings.
Furthermore, the behavior of profit functions and performance
measures is observed by means of a numerical example and Excel
simulation (with 100 computations of demand) applied to the ana-
lytical model proposed in Section 4.
4. Analytical model
Under the consideration of a simple supply chain consisting of
one supplier and one retailer facing stochastic demand, we first
proceed with presenting the model description, followed by a prof-
it function presentation of four cases: no coordination, push, vari-
ous coordination contracts (buyback, revenue sharing and quantity
flexibility), and APD cases as presented in Fig. 2.
4.1. Model description
The parameters considered for supply chain profit calculation
are the marginal cost of producing the goods, the marginal cost
of the retailer and, for both members, the goodwill and salvage
costs, the wholesale price, the optimal order quantity, and the ex-
pected sales. The notations used for profit equations, the assump-
tions behind the model, and the performance measures used for
evaluation are presented in the following.
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74
4.1.1. Notations
cs, cb: production cost of supplier and marginal cost of the
buyer/retailer
gs, gb: goodwill costs
ss, sb: salvage costs
w: wholesale price from supplier to retailer
qb: optimal order quantity of the buyer/retailer (decentralized
supply chain)
Q sc : optimal order quantity of the supply chain (coordinated
supply chain)
S(q): expected sales
Z The performance measures in number of units considered for
q
SðqÞ ¼ qð1  FðqÞÞ  yf ðxÞdx
0 and units short while revenue realized (RV), goodwill cost incurred
Z q
SðqÞ ¼ q  FðxÞdx
0 are in monetary units (MU) used for performance evaluation.
where F is the distribution function of demand (D) and f is the den-
sity function. Furthermore: F(0) = 0, FðxÞ ¼ 1  FðxÞ and l = E[D].
Decision variables for buyback contract:
– b: The buyback price received by the retailer from the supplier
for the unsold units at the end of the period under buyback set-
ting, with b < w
Decision variables for revenue sharing contract:
– w0 : new wholesale price
– u: revenue sharing fraction, with u e (0, 1)
Decision variables for quantity flexibility contract:
– d: quantity flexibility fraction, with d e (0, 1)
– ð1  dÞQ sc : minimum purchase quantity committed by retailer
under quantity flexibility setting
Decision variables for APD contract:
– r: the price paid for units ordered during the selling season,
with r>p
– Rq: the inventory build by the supplier in order to meet any
additional orders during the selling season
4.1.2. Assumptions
– the time frame considered is one period under the assumption
of a short-lived cycle product with no replenishment possibility
under Cases I, II, buyback, and revenue sharing;
– the demand is normally distributed within given mean and
standard deviations N(l, r2);
– any unmet demand is considered lost and a goodwill cost per
unit is applied;
– the remaining stock can be salvaged by both members at the
end of the selling season;
– in a buyback contract, if there is any leftover inventory at the
retailer, the entire amount can be returned to the supplier at
a fraction of the wholesale price;
– in a revenue sharing contract, each participant is allocated a
share of the total revenue generated by the retailer;
– the maximum commitment of the manufacturer in a quantity
flexibility contract is the optimal order quantity of the supply
chain;
61
– although there is infinite capacity at the supplier, there is no
inventory hold during the selling season and the production
takes place according to optimal order quantity. The only excep-
tion is quantity flexibility where the retailer orders less than
optimal order quantity and, in the case of high demand, the sup-
plier commits to provide units up to optimal order quantity. The
assumption is further relaxed in APD case where the supplier
produces according to order for a predefined wholesale price
and stores a number of units to be sold in case of replenishment
during the selling season at a higher wholesale price.
4.1.3. Performance measures
computing the calculations are: average sales, leftover inventory
(GW), wholesale value realized (W), salvage value realized (SV),
and marginal cost incurred (MC). These performance measures
Furthermore, the profit functions of the two members depend
on the performance measures as described below:
Ps = f(SVs, GWs, Ws, MC), where Ps represents the profit realized
by supplier and
Pb = f(RVr, SVr, GWr, Wdr, MCr), where Pb represents the profit
realized by retailer.
In addition to the performance measures considered directly for
profit evaluation and in order to measure service level, the ex-
pected fill rate will be considered as the performance measure to
evaluate customer satisfaction, as a function of expected sales
and expected demand.
The formula to be used for calculation is:
Expected sales
Expected fill rate ðaÞ ¼
Expected demand
4.2. Profit functions
4.2.1. No coordination (Case I)
If the members of the supply chain do not cooperate, the retailer
will place the appropriate order quantity such that only his own
profit will be maximized.
The profit functions of the two members may be calculated,
based on the notations presented in Section 4.1, as follows:
Pb ðqÞ ¼ pSðqÞ þ sb ðq  SðqÞÞ  g b ðD  SðQÞÞ  cb q  wq
Ps ðqÞ ¼ ss ðq  SðqÞÞ  g s ðD  SðqÞÞ  cs q þ wq
Optimal order quantity of the decentralized case may be ob-
tained by differentiating the retailer’s profit function and the re-
sulted formula as:
c b þ w  sb
FðqÞ ¼ 1 
p  sb þ g b
4.2.2. Push contract (Case II)
As introduced by Cachon (2004), a push contract is similar to a
wholesale price contract where, as opposed to the non-coordinated
case, the optimal order quantity placed by the retailer is equal to
the supply chain optimal order quantity.
Under a wholesale price contract, the profit functions of sup-
plier and retailer are:
P0b ðQ SC Þ ¼ pSðQ SC Þ þ sb ðQ SC  SðQ SC ÞÞ  g b ðD  SðQ SC ÞÞ  cb Q SC  wQ SC
62 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74

P0s ðQ SC Þ ¼ g s ðD  SðQ SC ÞÞ  cs Q SC þ wQ SC PQF     

b ðQ SC Þ ¼ pSðQ SC Þ þ wðQ SC  DÞ  c b Q SC  wQ SC

Supply chain optimal order quantity under coordination can be PQF    

s ðQ SC Þ ¼ ðss  wÞðQ SC  DÞ  c s Q SC þ wQ SC
obtained by differentiating total supply chain profit (P 0r ðQ SC Þþ
cb þcs sb
P0s ðQ SC Þ): FðQ SC Þ ¼ 1  ps þg þg
: – Demand higher than optimal order quantity: D > Q sc
b b s

4.2.3. Coordination contracts (Case III)

Among coordination contracts, the attention is directed towards
the three most debated contracts in the literature, namely: buy-
back, revenue sharing, and quantity flexibility. By differentiating
total supply chain profits, the optimal order quantity takes the
same form as in the case of coordination by wholesale price
contract:
c b þ c s  sb
FðQ SC Þ ¼ 1 
p  sb þ g b þ g s
The three contracts are described as follows.
4.2.3.1. Buyback contract. A buyback agreement between supplier
and retailer implies that the supplier buys back from the retailer
any unsold units at the end of the selling season at a price b < w.
In this way the supplier takes partial responsibility for any unsold
items. The profit functions are:
PBb ðQ SC Þ ¼ pSðQ SC Þ þ bðQ SC  SðQ SC ÞÞ  g b ðD  SðQ SC ÞÞ  cb Q SC  wQ SC
PBs ðQ SC Þ ¼ ðss  bÞðQ SC  SðQ SC ÞÞ  g s ðD  SðQ SC ÞÞ  cs Q SC þ wQ SC
with:
PQF     
b ðQ SC Þ ¼ pSðQ SC Þ  g b ðD  SðQ SC ÞÞ  c b Q SC  wQ SC
PQF     
s ðQ SC Þ ¼ g s ðQ SC  SðQ SC ÞÞ  c s Q SC þ wQ SC
4.2.4. Advanced purchase discount contract (Case IV)
The advanced purchase discount is a fusion of pull and push
contracts. Following the same set-up as the one presented in Sec-
tion 4.1, the retailer will place his order quantity before the selling
season and will have replenishment possibilities in case of high de-
mand levels. The number of units that can be ordered during the
selling season is restricted by supplier’s inventory, Rq. Further-
more, the supplier does take back any units left at the retailer in
the case of low demand. Under the assumption that the retailer
purchases a number of units equal to optimal order quantity in
the decentralized case, we have three possible scenarios:
– D < q, with no replenishment made by the retailer. In this case
the retailer bears the risk of unsold units. The contract takes
the form of a wholesale price contract, with the supplier paying
for the unsold inventory:
PAPD
b ðqÞ ¼ pSðqÞ þ sb ðq  SðqÞÞ  c b q  wq

ðsb þ g b  cb  wÞq  sb SðqÞ þ ðcb þ w  g b ÞQ SC

6b PAPD ðqÞ ¼ ss Rq  cs ðq þ Rq Þ þ wq
Q SC  SðQ SC Þ s

ðg s  cs þ wÞQ SC  ðg s  cs þ wÞq þ ss ðQ SC  SðQ SC ÞÞ

6 – q < D < D + Rq, with partial replenishment made by the retailer
Q SC  SðQ SC Þ
up to demand level. The retailer bears no risk while the supplier
bears the risk of leftover inventory:
4.2.3.2. Revenue sharing contract. A revenue sharing contract im- PAPD
b ðqÞ ¼ pD  c b D  wq  rðD  SðqÞÞ
plies that the retailer purchases the goods at a discounted price be-
fore demand is observed, but commits to sharing with the supplier
PAPD
s ðqÞ ¼ ss ðRq  ðD  SðqÞÞÞ  cs ðq þ Rq Þ þ wq þ rðD  SðqÞÞ
a fraction of the revenue realized at the end of the selling season as
follows:
– D + Rq < D, with full replenishment made by the retailer and
PRS      
b ðQ SC Þ ¼ ufpSðQ SC Þ þ sb ðQ SC  SðQ SC ÞÞ  g b ðD  SðQ SC ÞÞg  c b Q SC goodwill loss occurring for both members:
 w0 Q SC PAPD
b ðqÞ ¼ pD  g b ðD  ðSðqÞ þ Rq ÞÞ  c b ðq þ Rq Þ  wðq þ Rq Þ


PAPD
s ðqÞ ¼ g s ðD  ðSðqÞ þ Rq ÞÞ  cs ðq þ Rq Þ þ wðq þ Rq Þ
PRS
s ðQ 
SC Þ ¼ g s ðD  SðQ 
SC ÞÞ  c Q 
s SC þ w 0 
Q SC þ ð1  uÞ pSðQ SC Þ
 Under the consideration that the retailer tries to maximize his
own profits, the optimal order quantity under APD is:
þ sb ðQ SC  SðQ SC ÞÞ  g b ðD  SðQ SC ÞÞ
cb þ w  sb
FðqÞ ¼ 1 
p  sb þ g b
4.2.3.3. Quantity flexibility contract. Under the quantity flexibility
In order for the comparison among the four cases to be relevant,
contract, the retailer commits to buy ð1  dÞQ sc units with the pos-
we have applied the model described in this section on a numerical
sibility of replenishment during the selling season up to optimal
example by running 100 computations of demand by means of a
order quantity level; d is a contract parameter and d e [0, 1].
simulation in Excel. This data, along with decision variables, com-
According to demand level, we have three different scenarios:
putations, and results discussion are presented in Section 5.

– Demand higher than commitment quantity: D > ð1  dÞQ sc

5. Numerical example
P QF     
b ðQ SC Þ ¼ pSðQ SC Þ þ sb ðð1  dÞQ SC  DÞ  c b ðð1  dÞQ SC Þ  wðð1  dÞQ SC Þ
With the scope of evaluating coordination by contracts,
Arshinder et al. (2009a, 2009b) proposed a framework divided into
PQF 
s ðQ SC Þ ¼ cs ð1  dÞQ SC þ wð1  dÞQ SC
two phases: Phase I – Decision support tool (with a focus on per-
formance measures evaluation of five different scenarios: no coor-
– Demand higher than commitment quantity but smaller than dination, optimal order quantity, optimal order quantity with
optimal order quantity: ð1  dÞQ sc < D < Q sc buyback, optimal order quantity with revenue sharing, and optimal
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74 63

order quantity with quantity flexibility) and Phase II – Graph the-
oretic model (based on diagram, matrix, and permanent function
representations). Due to existing similarities between this research
and Phase I of the evaluation of coordination by contracts frame-
work, we consider the numerical example used by Arshinder
et al. (2009a, 2009b) for contract evaluation corresponding with
our study and we use it as input for our proposed four cases eval-
uation as presented in Fig. 1.
5.1. Data and decision variables
The data used as input for model evaluation, including all the
parameters used for calculations and the demand characteristics,
are presented in Table 1.
Based on the input data and on optimal order quantity formu-
las, we have obtained the optimal order quantities as presented
in Table 2. The other decision variables for each case have been ob-
tained by applying the formulas presented in Section 4 or gener-
ated as output from simulation.
5.2. Simulation results
The models presented here and by Arshinder et al. (2009a,
2009b) are similarin generating the results in terms of decision
variables presented in Table 2. However, after computing all per-
formance measures calculations (as presented in Table 3), we iden-
tified differences from the results obtained by Arshinder et al.
(2009a, 2009b). This observation triggered an investigation into
the causes that generated these differences. In this respect, follow-
ing Arshinder et al. (2009a, 2009b) research methodology, we
found existing inconsistencies in notations and profit formulas as
well as miscalculations in computing the results (Table 3 versus

Table 1
Input data.

Supplier’s DATA Retailer’s DATA Demand

Cost (Cs) 12 Cost (Cb) 2 Demand distribution Normal
Salvage (Ss) 9 Salvage (Sb) 10 Mean 100
Goodwill cost (Gs) 8 Goodwill cost (Gb) 14 Standard deviation 30
Wholesale price (w) 20 Price of product (p) 30

Table 2
Optimal order quantities and other decision variables.

Decision variables
Q Optim b w0 (Simulation) u d (Simulation) r (Simulation) Rq (Simulation)
Case I No coordination 111.32 – – – – – –
Case II Push contract 139.27 – – – – – –
Buyback 139.27 15 – – – – –
Case III Revenue sharing 139.27 – 10.1 0.6 – – –
Quantity flexibility 139.27 – – – 0.201 – –
Case IV APD contract 111.32 – – – – 24 29

Table 3
Performance measures and profit results from simulation.

Performance measures Case I (no coordination) Case II (push contract) Case III Case IV (APD) r = 24 Rq = 29
Buyback Revenue sharing Quantity flexibility
b = 15 w0 = 10, u = 0.6 d = 0.201
Retailer
Revenue realized 2746.14 2938.79 2938.79 2938.79 2940.96 2941.30
Salvage realized 197.84 413.15 619.73 413.15 293.17 191.90
Goodwill incurred 71.88 18.39 18.39 18.39 17.38 17.21
Marginal cost incurred 222.64 278.55 278.55 278.55 244.40 234.47
Wholesale value incurred 2226.44 2785.50 2785.50 1406.68 2443.97 2368.31
Leftover inventory 19.78 41.32 41.32 41.32 24.17 19.19
Units short 5.13 1.31 1.31 1.31 1.24 1.23
Average sale 91.54 97.96 97.96 97.96 98.03 98.04
Supplier
Salvage realized 0.00 0.00 371.84 0.00 44.77 207.80
Goodwill incurred 41.07 10.51 10.51 10.51 9.93 9.84
Marginal cost incurred 1335.86 1671.30 1671.30 1671.30 1466.38 1683.31
Wholesale value incurred 2226.44 2785.50 2785.50 1406.68 2443.97 2368.31
Return cost 0 0 619.73 0 99.48 0.00
Inventory level 0 0 41.32 0 13.15 23.09
Units short 5.13 1.31 1.31 1.31 1.24 1.23
Average sale 111.32 139.28 97.96 139.28 122.20 117.23
Retailer’s profit 423.02 269.51 476.08 320.46 528.38 513.21
Supplier’s profit 849.50 1103.70 855.80 1052.74 911.01 882.41
Total supply chain profit 1272.52 1373.20 1331.89 1373.20 1439.39 1395.62
64 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74

Table 9). In order to justify the differences between our results and
the results obtained by Arshinder et al. (2009a, 2009b), our find-
ings, along with additional observations to the work of Arshinder
et al. (2009a, 2009b) – for both Phases I and II, are presented in de-
tail and can be referred to in Appendix A.
Because these differences bring no impact to our analysis, we
proceed in this section with presenting the results from calcula-
tions for the four different cases described in Section 4: no coordi-
nation, push contract, coordination contracts, and APD contracts.
The computations have been conducted by simulating 100 runs
of demand in Excel. These results from simulation for retailer, sup-
plier and supply chain as one entity are presented in Table 3.
A brief look at Table 3 reveals that the total supply chain profit
improves under push, buyback, revenue sharing, quantity flexibil-
ity, and APD contracts when compared with the non-coordinated
case. However, when compared with push contract, buyback gen-
erates in a decrease of total profit, while revenue sharing provides
the same results but offers a fairer split of the profit. Among all
cases, quantity flexibility brings the highest increase, followed by
APD contract with a difference of 44 MU. These data sets, along
with individual member results for the retailer and the buyer,
are analyzed in further detail in Section 5.3.
5.3. Discussion
In line with the objectives of the research, this section will focus
on discussing the behavior of performance measures and profit
function improvement for all cases under consideration. Further
observations on APD are drawn, and the expected fill rate as an
additional performance measure to the model is calculated and
analyzed.
5.3.1. Profit function evaluation
Based on performance measures results, Fig. 3 shows a graphic
representation of the contribution to the profit of the retailer and
the supplier. According to the four cases considered for investiga-
tion, the behavior of profit function presents variations from one
setting to the other.
5.3.1.1. Impact on profit function of the retailer. From Fig. 3(i), it can
be observed that retailer’s profit is decreasing under push contract
when compared with the decentralized case as a consequence of
supply chain optimal order quantity Q sc the retailer is now maxi-
mizing supply chain profit and is not acting in his interest by max-
imizing own profit). This decrease in performance of push contract
is improved in Case III with the implementation of coordination
contracts, where the profit value increases with the increase in de-
mand up to optimal order quantity and decreases for demand lev-
els higher than optimal order quantity. For the retailer, the best
improvement is brought by quantity flexibility, followed by APD,
buyback, no coordination, revenue sharing, and wholesale cases.
5.3.1.2. Impact on profit function of the supplier. As visualized in
Fig. 3(ii), both the non-coordinated and quantity flexibility cases
give the same results up to quantity flexibility level, where, due
to inventory control, the quantity flexibility setting improves profit
over the non-coordinated case. Among coordination contracts,
buyback seems to offer the lowest values due to return cost
considerations. By holding inventory for replenishment during
the selling season, the salvage value is increased for the supplier
under the APD contract generating in low profit values. Best profit
improvement is brought to the supplier by wholesale and revenue

()

( )
Fig. 3. The profit functions of retailer and supplier based on the results from simulation.
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74
sharing contracts, followed by quantity flexibility, APD, and
buyback.
Based on the expected profit values, the best contract choice for
the buyer is a buyback contract for very low levels of demand, APD
contract for demand levels exceeding the optimal order quantity
under the decentralized scenario, and quantity flexibility in case
of medium and high demand levels. From the supplier’s perspec-
tive, he would form a wholesale agreement with the retailer for
low demand situations and a revenue sharing agreement in the
case of medium and high demand levels. Overall, in the retailer’s
case, the APD contract exceeds the performance improvement
brought by Cases I–III but is outperformed by quantity flexibility
contract. In the supplier’s case, the APD contract is outperformed
by the non-coordinated case, push, and quantity flexibility for
low demand levels, and by revenue sharing for high demand
levels.
5.3.2. Performance measures evaluation
In order to understand the implications of the different contrac-
tual models on the supply chain bottom line, the relative contribu-
tion of performance measures in the profit function is presented in
relation to the non-coordinated case (Case I), in relation to the
wholesale price contract (Case II – Push model), and in relation
to APD contract (Case IV).
5.3.2.1. Evaluation in relation to Case I – no coordination. Based on
the results presented in Fig. 4, the impact on performance mea-
sures of the retailer have been calculated and presented in Appen-
()
( )
Fig. 4. Performance measures of the retailer and the supplier related to Case I – no coordination.
65
dix B (Table 17). Having the results illustrated in Fig. 4, it can be
observed that each contract resembles the setting and the assump-
tions behind the model.
5.3.3. Impact on performance measures of the retailer
Disregarding the loss brought to the retailer’s profit by the
wholesale term in buyback contract, the profit is improved by an
increase in revenue and salvage realized (as result of the supplier
buying back unsold items from the retailer at a price higher than
retailer’s salvage cost). Under the revenue sharing contract, the
benefit realized by buying at a discounted price is overcome by
the loss of sharing the revenue leading to a decrease in theretailer’s
total profit. Both quantity flexibility and APD generate the best per-
formance improvement results as a consequence of the increase in
revenue term; there is a better match of supply with demand.
5.3.4. Impact on performance measures of the supplier
Related to the non-coordinated case, the profit function pre-
sents improvement in all cases considered for comparison. This
improvement is generated by salvage and wholesale value terms
in the buyback case that are higher than marginal and return costs.
By having the retailer sharing its revenue, the wholesale term for
the supplier is increased by 58.1% covering all the marginal costs
and improving supply chain performance under the revenue shar-
ing contract. In quantity flexibility and APD, the loss in marginal
cost is covered by wholesale and salvage terms as a consequence
of inventory risk allocation, with a slight profit improvement.
66 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74

Table 4
Profit values matrix under APD contract.

Supplier’s inventory Retailer’s order quantity

0 20 40 60 80 100 120 139.27 140
0 1317 1373 1373
4 1346 1373 1372
6 1358 1373 1372
8 291 861 1208 1366 1372 1371
10 307 353 910 1231 1372 1371 1369
20 674 33 644 1102 1330 1390 1355 1353
30 307 355 914 1239 1385 1386 1333 1330
40 33 646 1105 1337 1402 1370 1307
50 307 355 915 1242 1396 1399 1347 1277
60 33 646 1107 1341 1410 1382 1321 1247
70 355 915 1244 1396 1406 1360 1291 1217
80 646 1107 1342 1413 1390 1334 1261
90 915 1244 1397 1410 1367 1304 1231
100 1107 1343 1414 1393 1341 1274 1201
125 1378 1414 1384 1330 1266 1199
150 1411 1372 1316 1255 1191 1124
175 1359 1301 1241 1180 1116
200 1286 1226 1166 1105 1041
225 1211 1151 1091 1030
250 1136 1076 1016

Bold values denotes the maximum profit.

()

( )
Fig. 5. Performance measures of the retailer and the supplier related to Case II – Push.

Following these implications, the highest overall improvement
to retaileŕs profit is generated under APD contract with a total gain
of 61.01%. The supplier has the highest benefit by implementation
of revenue sharing contract with a total gain of 61.6% (results avail-
able in Appendix B – Table 17).
5.3.4.1. Evaluation in relation to Case II – Push contract. In line with
the objectives of this article, the contribution of buyback, revenue
sharing, quantity flexibility, and APD is also compared to the
wholesale price contract (Case II – Push contract). Based on the rel-
ative contribution of different performance measures in the profit
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74
function presented in Appendix B (Table 18), a graph representa-
tion of performance measures variation has been generated and
shown in Fig. 5.
5.3.5. Impact on performance measures of the retailer
In buyback case, the increase in profit performance is generated
by the salvage term with a contribution of 100%. This increase is
realized by the buyback price of 15 MU paid by the supplier on
the leftover units, higher by 5 MU than retailer’s salvage value. Un-
der revenue sharing, quantity flexibility, and APD, the positive con-
tribution to the profit is brought by the wholesale value incurred
while some of the losses are generated by revenue terms in the
revenue sharing contract and by salvage value in quantity flexibil-
ity and APD.
5.3.6. Impact on performance measures of the supplier
The decrease in buyback profit for the supplier is imposed by
the return cost, which is the amount paid for the units bought back
at the end of the selling season. In this case the salvage realized by
the retailer is equal to the return cost paid by the supplier, equal to
619.73 MU. Some of these costs are covered by the salvage value
applied to the returned units. In revenue sharing, the drop in val-
ues is generated by the decrease in wholesale value, this being re-
lated to the share of the revenue received from the retailer for the
goods sold. The loss in wholesale value realized in the quantity
flexibility case is partially covered by marginal cost and salvage
values, while under the APD contract, the loss is covered by the sal-
vage of the unsold units.
Following the comparison of hybrid models with push con-
tracts, the results presented in Table 18 (Appendix B) indicate that
the best improvement to the retaileŕs profit is brought by the
()
( )
Fig. 6. Performance measures of the retailer and the supplier related to Case IV – APD.
67
quantity flexibility contract with a total gain of 75.95% while the
supplieŕs profit has the highest increase by utilizing buyback con-
tracts with a total gain of 37.5%.
5.3.6.1. Evaluation in relation to Case IV – APD contract. Based on the
affirmation made by Cachon (2004) on coordination contracts being
compared to an inappropriate benchmark (push contracts) and
based on Table 19 (available in Appendix B), Fig. 6 graphically shows
the impact on the performance measures in relation to APD setting.
5.3.7. Impact on performance measures of the retailer
Under buyback and quantity flexibility contracts (Fig. 6(i)), the
loss generated by the wholesale value is covered by an approxi-
mate gain in the salvage value realized. With a revenue sharing
contract, the revenue realized decreases due to the share with
the supplier, but it is partly covered by the increase in wholesale
price (generated by the discounted price).
5.3.8. Impact on performance measures of the supplier
With a 51% loss on the cost of returns, profit values under buy-
back contracts results in a decrease against the APD contract. Hav-
ing high gains on the wholesale value and respectively on the
incurred marginal cost, revenue sharing and quantity flexibility
contracts bring about a positive profit change.
Based on the above considerations and on the results of Table
19 (Appendix B), the sole contract in the retaileŕs case that gener-
ates in a profit improvement when compared with APD is quantity
flexibility contract (54.05% total gain). With a total gain of 64.5%
over APD contract, the supplieŕs profit is increased under the
revenue sharing setting, followed by quantity flexibility with a to-
tal gain of 52.75%.
68 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74

Table 5 6. Conclusions
Fill rate results.

Fill rate (%) In order to observe the implications of different contractual

Case I No coordination
Case II Push contract
Buyback
Case III Revenue sharing
Quantity flexibility
Case IV APD
From the discussion presented in this section, it results that by
shifting some inventory risk from retailer to supplier (hybrid mod-
els), the supply chain performs better than when the entire risk is
allocated to the retailer (non-coordinated and push systems). Fur-
thermore, considering the highest overall supply chain perfor-
mance improvement of hybrid contracts (APD and quantity
flexibility) in relation to the decentralized and push cases, the re-
sults show that the main contribution is generated by the improve-
ment in the retailer’s wholesale value and realized revenue as a
result of the possibility of replenishment during the selling season.
5.3.9. APD contract
In computing the calculations for APD contract, the optimal sup-
ply chain order quantity has been considered equal to the optimal
order quantity placed by the retailer in the decentralized case. With
an order quantity of 111.32 units, the replacement stock to be held
by the supplier and suggested by simulation is 29 units leading to a
total supply chain profit of 1395.62 MU. However, there are a series
of ‘‘retailer’s order quantity – supplier’s inventory’’ combinations
that generate better supply chain performance improvement. These
results, as generated from simulation, are presented in Table 4.
From the results it can be observed that maximum supply chain
profit is achieved when the retailer places an order range between
0 and 60 and with the supplier holding 90 to 150 units in stock for
replenishment in case of high levels of demand. With a decrease in
the order quantity placed by the retailer, the risk of inventory is
shifted to the supplier. Furthermore, with the retailer placing the
optimal supply chain order quantity of 139.27 as specified for
the coordinating contracts and with no replenishments during
the selling season, the APD contract is reduced to a pure push sys-
tem with total supply chain profit equal to 1373 MU.
5.3.10. Expected fill rate
As an additional performance measure, the expected fill rate to
evaluate customer satisfaction has been calculated for the four
cases considered for evaluation. From the results presented in
Table 5, we can observe that the decentralized case brings the low-
est customer satisfaction, followed by the cases where the supplier
takes indirect inventory risk (buyback and revenue sharing), and
with the highest demand coverage realized by hybrid cases where
the supplier takes direct inventory risk (quantity flexibility with
98.75% and APD with 98.76%).
94.69 models on supply chain performance, this article evaluated the per-
formance measures and profit behavior of (1) buyback, revenue
98.68
98.68 sharing, quantity flexibility, and APD contracts in relation to the re-
98.68
sults obtained under the decentralized supply chain and pure push
98.75 systems (wholesale price setting) and (2) buyback, revenue sharing,
98.76 and quantity flexibility in relation to APD contracts. In this respect
we defined an analytical model along with the profit functions of
supply chain members for each contractual model, followed by
model evaluation through a numerical example and Excel simula-
tion, with the findings of the research summarized in Table 6.
Based on these findings and following the affirmation made by
Cachon (2004) regarding the comparison of coordination contracts
with an inappropriate benchmark as visualized in Section 5.2, buy-
back, revenue sharing, and quantity flexibility settings present effi-
ciency improvement when compared with Cases I and II. An
exception exists when comparing the buyback contract against
the push system that indicatesa total supply chain profit decrease
of 3%. However, when compared with the APD contract, buyback
and revenue sharing fail to meet the efficiency expectations im-
posed by coordination, demonstrating a negative 7.2% profit contri-
bution under buyback contract and a negative 37.6% under revenue
sharing contract. With quantity flexibility as the only contract that
confirms the affirmation made by Cachon (2004), total profit is im-
proved by 3% for the retailer and 3.2% for the supplier.
Under the consideration that high returns are realized along
with high sales volume, based on demand levels equal to optimal
order quantities and higher, an overview of contract preferences
of the retailer and the supplier is presented here with quantity
flexibility, APD, and revenue sharing offering best results.
Retailer Supplier
1 Quantity flexibility Revenue sharing
2 APD APD
3 Revenue sharing Quantity flexibility
4 Buyback/push Buyback/push
5 No coordination No coordination
Although quantity flexibility is the first preference for the retai-
ler, the contract provides low profit values for the supplier with its
best contract choice being revenue sharing. In case of conflict, a
second option is the APD contract with good performance results
for both members.
In case of medium demand levels, the first preference of the re-
tailer is APD, while in case of low demand he will choose buyback
contract. The supplier is best served by choosing a push contract
under both low and medium customer demand levels.
In addition to the outcome of the research, the numerical exam-
ple used for model evaluation is based on the work on Arshinder

Table 6
Profit improvement of buyback, revenue sharing, quantity flexibility, and APD models in relation to Cases I, II, and IV.

Profit Buyback vs. Revenue sharing vs.

Case I (%) Case II (%) Case IV (%) Case I (%) Case II (%) Case IV (%)
Retailer 12.5 76.6 7.2 24.2 18.9 37.6
Supplier 0.7 22.5 3.0 23.9 4.6 19.3
Total SC Profit 4.7 3.0 4.6 7.9 0.0 1.6
Quantity flexibility vs. APD vs.
Retailer 24.9 96.1 3.0 21.3 90.4 –
Supplier 7.2 17.5 3.2 3.9 20.0 –
Total SC Profit 13.1 4.8 3.1 9.7 1.6 –
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74 69

et al. (2009a, 2009b). Model and procedure similarity between the
two studies should have led to similar results in terms of perfor-
mance measures computations. However, different values were
obtained and presented in Tables 3 and 9. These varying results
triggered investigations that uncovered inconsistencies in the
work done by Arshinder et al. (2009a, 2009b) with respect to nota-
tions, formulas, and computations. In order to justify the differ-
ences, detailed explanations and additional observations are
presented at the end of the article (Appendix A) in order to facili-
tate an understanding of the procedure followed for evaluation.
While the focus of this research studied the implications on the
performance measures and profit function of a limited number of
contractual models with their applicability within a two-echelon
supply chain, further research can be made to extend the model
to multi-echelon settings (three or more members of the supply
chain) or to observe these implications (especially APD contract)
in comparison to other coordination contracts such as quantity dis-
count and sales rebate with big influence on demand levels.
Appendix A. Additional observation to Arshinder et al. (2009a,
2009b)
This section brings additional observations to the evaluation of
coordination by contracts framework developed by Arshinder et al.
(2009a, 2009b). We examine the decision support tool in terms of
notations, formulas, and results followed by graph theoretical
model observations.
A.1. Decision support tool – recalculation and additional observations
der quantity with quantity flexibility (S4). Phase I concludes with a
comparison of the various scenarios for coordination – based on
Excel simulations – and performance measures evaluation.
A.1.1. Notations and formulas
Looking at the overview of notations, Arshinder et al. (2009a,
2009b) have defined u as the fraction of the revenue generated
by the buyer and shared with the supplier, while in the presenta-
tion of the profit formulas for the revenue sharing contract, the
notation used to represent the fraction of the revenue is /. On
the formula side, there seem to be missing or mistakenly used
parameters. For instance, optimal order quantity is used instead
of expected sales, and the price parameter is missing from the rev-
enue realized term. In order for the considerations to be precise on
the revenues sharing profit function of the retailer, the revenue to
be considered for allocation should include the revenue generated
from sales, as well as the salvage and goodwill terms of the retailer.
Based on these observations, all formulas have been scrutinized
and the corresponding adjustments are presented in Table 7 and
marked in bold letters.
Furthermore, the optimal supply chain order quantity consid-
ered for the coordinated scenarios seem to be incorrect. By sum-
ming the profits of the retailer and the supplier as available in
the optimal order quantity scenario, the correct formula resulted
from calculating the derivative should be as presented in Table 8.
A.1.2. Impact on the performance measures and profit function
The performance measures (i.e. revenue realized, salvage real-
ized, goodwill incurred, marginal cost incurred, wholesale value

The decision support tool – Phase I – utilizes the newsvendor

model, cost and price parameters, different types of contracts, Table 8
and customer demand. The resulting output of the decision tool Optimal supply chain quantity.
is the profit functions that stay as a foundation for generating a Supply chain optimal order Arshinder et al. ðcs þcr Þss þsr Þ
FðQ Þ ¼ 1  pðs s þsr Þþðg þg rÞ
five-scenario approach to coordination: no coordination (S0), opti- quantity (S1–S4) (2009a, 2009b)
s

mal order quantity (S1), optimal order quantity with buyback (S2), Adjustment f ðQ sc Þ ¼ 1  ps
cr þcs sr
r þg þg
r s

optimal order quantity with revenue sharing (S3), and optimal or-

Table 7
Arshinder et al. (2009a, 2009b) versus adjusted profit equations.a

Scenario Source Profit equation

S0 – No coordination Arshinder et al. (2009a, 2009b) P b ðqÞ ¼ pSðqÞ þ sb ðq  SðqÞÞ  g b ðD  qÞ  cb q  wq
Adjustment P b ðqÞ ¼ pSðqÞ þ sb ðq  SðqÞÞ  g b ðD  SðqÞÞ  cb q  wq

S1 – Optimal order quantity
S3 – Revenue sharing contract
Arshinder et al. (2009a, 2009b) P 0 ðQ sc Þ ¼ pS ðQ sc Þ þ sb ðQ sc  SðQ sc ÞÞ  g b ðD  Q sc Þ  cb Q dc  wQ sc
P 0s ðQ sc Þ ¼ g s ðD  Q sv Þ  cs Q sc þ wQ sc
Adjustment P 0b ðQ sc Þ ¼ pSðQ sc þ sb ðQ sc  SðQ sc ÞÞ  g b ðD  SðQ sc ÞÞ  cb Q sc  wQ sc
P 0s ðQ sc Þ ¼ g s ðD  SðQ sc ÞÞ  cs Q sc þ wQ sc
Arshinder et al. (2009a, 2009b) P RB       0 
b ðQ sc Þ ¼ /SðQ sc Þ þ sb ðQ sc  SðQ sc ÞÞ  g b ðD  SðQ sc ÞÞ  c b Q sc  w Q sc
P RS    0  
s ðQ sc Þ ¼ g s ðD  SðQ sc ÞÞ  c s Q sc þ w Q sc þ ð1  /ÞSðQ sc Þ

Adjustment P RS       0 
b ðQ sc Þ ¼ uðpSðQ sc Þ þ sb ðQ sc  SðQ sc ÞÞ  g b ðD  SðQ sc ÞÞÞ  c b Q sc  w Q sc
P RS    0     
s ðQ sc Þ ¼ g s ðD  SðQ sc ÞÞ  c s Q sc þ w Q sc þ ð1  uÞðpSðQ sc Þ þ sb ðQ sc  SðQ sc ÞÞ  g b ðD  SðQ sc ÞÞÞ

S4 – Quantity flexibility contract Arshinder et al. (2009a, 2009b) P QF

b
ðQ sc Þ ¼ pQ sc þ sb ðð1  dÞQ sc  DÞ  0  cb ðð1  dÞQ sc Þwðð1  dÞQ sc Þ ðaÞ
P QF
b
ðQ sc Þ ¼ pQ sc þ wðQ sc  DÞ  0  cb Q sc  wQ sc ðbÞ
P QF    
s ðqÞ ¼ pQ sc þ 0  0g b ðD  sðQ sc ÞÞ  c b Q sc  wQ sc ðcÞ
P QF    
s ðQ sc Þ ¼ g s ðD  Q sc Þ  c s Q sc þ wQ sc ðcÞ

Adjustment P QF     
s ðQ sc Þ ¼ pSðQ sc Þ þ sb ðð1  dÞQ sc  D  0  c b ðð1  dÞQ sc  wðð1  dÞQ sc ðaÞ
P QF
b
ðQ sc Þ ¼ pSðQ sc Þ þ wðQ sc  DÞ  0  cb Q sc  wQ sc ðbÞ
P Qf
b
ðQ sc Þ ¼ pSðQ sc Þ þ 0  g b ðD  SðQ sc ÞÞ  cb Q sc  wQ sc ðcÞ
P QF    
s ðQ sc Þ ¼ g s ðD  SðQ sc ÞÞ  c s Q sc þ wQ sc Þ ðcÞ

a
(a)–(c) stay as notations for different profit equations given a lower limit and an upper limit of the quantity commitment of the buyer as follows: a: Demand higher than
commitment quantity, D > ð1  dÞQ sc . b: Demand higher than commitment quantity but smaller that optimal order quantity, ð1  dÞQ sc < D < Q sc . c: Demand higher than
optimal order quantity, D > Q sc .
70 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74

Table 9
Comparison of the performance measures for different scenarios of the numerical example.

Performance Scenario 0 (no Scenario 1 (coordination Scenario 2 (S1 + buyback) Scenario 3 (S1 + revenue Scenario 4 (S1 + quantity
measures coordination) with optimal) sharing) flexibility)
b = 15 w0 = 10, u = 0.6 d = 0.201
Re- Arshinder Re- Arshinder Re- Arshinder Re- Arshinder Re- Arshinder
calculation et al. (2009a, calculation et al. (2009a, calculation et al. (2009a, calculation et al. (2009a, calculation et al. (2009a,
2009b) 2009b) 2009b) 2009b) 2009b)
Buyer
Revenue 2746.14 2744.18 2938.79 2915.22 2938.79 2915.22 2938.79 1894.9 2940.96 2915.22
realized
Salvage 197.84 199.18 413.15 422.63 619.73 632.68 413.15 422.63 293.17 238.67
realized
Goodwill 71.88 95.32 18.39 15.5 18.39 15.5 18.39 15.5 17.38 15.5
incurred
Marginal cost 222.64 222.71 278.55 278.71 278.55 278.71 278.55 278.71 244.4 241.99
incurred
Wholesale 2226.44 2227.07 2785.5 2787.12 2785.5 2787.12 1406.68 1427.79 2443.97 2419.92
value
incurred
Leftover 19.78 19.88 41.32 42.18 41.32 42.18 41.32 42.18 24.17 23.82
inventory
Units short 5.13 6.81 1.31 1.11 1.31 1.11 1.31 1.11 1.24 1.11
Average sale 91.54 91.47 97.96 97.17 97.96 97.17 97.96 97.17 98.03 97.17
Supplier
Salvage 0 0 0 0 371.84 379.61 0 0 44.77 26.9
realized
Goodwill 41.07 54.49 10.51 8.86 10.51 8.86 10.51 8.86 9.93 8.86
incurred
Marginal cost 1335.86 1336.22 1671.3 1672.24 1671.3 1672.24 1671.3 1672.24 1466.38 1451.92
incurred
Wholesale 2226.44 2227.07 2785.5 2787.12 2785.5 2787.12 1406.68 2448.12 2443.97 2419.92
value
incurred
Return cost 0 0 0 0 619.37 631.62 0 0 99.48 0
Inventory 0 0 0 0 41.32 42.18 0 0 13.15 2.99
level
Units short 5.13 6.81 1.31 1.11 1.31 1.11 1.31 1.11 0 1.11
Average sale 111.32 91.47 139.28 97.17 97.96 97.17 139.28 97.17 122.2 97.17
Buyer’s profit 423.02 398.27 269.51 256.53 476.08 466.58 320.46 595.53 vs. 549.77 476.48 vs.
469.58 539.52
Supplier’s 849.5 836.36 1103.7 1106.02 855.8 852.95 1052.74 767.02 vs. 899.14 986.04 vs.
profit 892.97 926.26
Total supply 1272.52 1234.63 1373.3 1362.55 1349.47 1319.53 1373.20 1362.55 1441.33 1465.78
chain profit

Bold values denotes the maximum profit.

incurred, and return cost incurred) are affected by the imperfec-
tions highlighted above. Therefore, these differences are presented
in Table 9 by making a parallel between the re-calculated values
and the original values obtained by Arshinder et al. (2009a,
2009b). In addition to the refinement provided here, some observa-
tions are worth mentioning:
– The average sales values used for re-calculation in the buyer’s
case are slightly higher than the ones used in Arshinder et al.
(2009a, 2009b): 91.54 versus 91.47 for non-coordination, and
97.96 versus 97.17 for coordination. The reason for this adjust-
ment is that Excel generates random numbers to obtain the
demand data needed for simulation. The same precise numbers
cannot be obtained and used in computing the calculations
because Excel generates different random numbers every time
the program runs, thereby making it impossible to obtain the
same exact values and the same means as the ones obtained
by Arshinder et al. (2009a, 2009b).
– In the supplier’s case, the average sale should be equal with the
optimal order quantity under S0, S1, and S3, a consequence of
the assumption stating that the supplier produces to order. In
S2 and S4, however, the average sale numbers should be
adjusted according to buyback and quantity flexibility implica-
tions as presented in Table 9.
– In the revenue sharing scenario (S3) and in the quantity flexibility
scenario (S4), there seems to be some miscalculation when it
comes to total profit values of the buyer and the supplier. By
applying the formulas, the correct summation based on obtained
data should have been 596.53 for the buyer and 767.02 for the
supplier in revenue sharing case (not 469.58 and 892.97 as made
by Arshinder et al. (2009a, 2009b). Inthe quantity flexibility case,
the correct profit values are 476.48 for the buyer and 986.04 for
the supplier (versus the erroneously given values of 539.52 and
926.26). As a result, the total supply chain profit reflects an incor-
rect value by adding any of the two sets of buyer and supplier
profits. The correct totals are 1362.55 versus the 1373.20 origi-
nally given by Arshinder et al. (2009a, 2009b).
– From a closer look at the data, it can be observed that the profit
function by re-calculation follows the same pattern as the
one presented in Arshinder et al. (2009a, 2009b): in the non-
coordinated case, the profit takes the lowest value whereas
the highest profit value is achieved within optimal order quan-
tity with the quantity flexibility scenario. Within the coordi-
nated cases, the buyback contract offers the minimum profit
while optimal order quantity and revenue sharing give the same
expected profit values. However, individual retailer and sup-
plier profits seem to suffer some changes in profit allocation
(i.e. revenue sharing contract).
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74 71

The impact on the performance measures and on the supply
chain total profit can be better emphasized by comparing the rela-
tive contribution to the profit of the performance measures ob-
tained by re-calculation and the ones obtained by Arshinder
et al. (2009a, 2009b). The total gains and losses for the three coor-
dinated contracts are presented by comparison in Table 10.
Referring to the impact of contracts on the performance mea-
sures of the retailer and the supplier, the outcome shows that in
Arshinder et al. (2009a, 2009b) the lowest contribution to the prof-
it is brought to the retailer by buyback contract. By re-calculation,
the lowest contribution appears to be brought by implementing
revenue sharing contract. For the supplier, the highest contribution
to the profit, as per Arshinder et al. (2009a, 2009b), is brought by
quantity flexibility contract followed by revenue sharing and buy-
back contracts. By re-calculation, the highest contribution to the
supplier’s profit is brought by revenue sharing, followed by quan-
tity flexibility and buyback contracts. As a result, quantity flexibil-
ity offers the highest percentage of improving the performance
measures of the retailer, i.e. 59.0% and revenue sharing offers the
highest value for the supplier, i.e. 61.6%.
A.2. Graph theoretical model – recalculation and additional
observations
In order to verify model and data accuracy and referring to the
diagraph representation, the matrix representation and the perma-
nent function representation of Phase II, values have again been re-
calculated for the quantity flexibility scenario, the model Arshinder
et al. (2009a, 2009b) considered as the contract that brings maxi-
mum improvement to the profit. Inconsistencies in notations and
formulas, along with required re-calculations of the inheritance
values, affect the effectiveness of coordination formulas and the
permanent function representations, as shown here:
A.2.1. Notations and formulas
Referring to the permanent function representation and to the
Supply Chain Coordination Index (SCCI), the effectiveness of
coordination formulas seem to consider the wrong mathematical
operations: specifically, summation instead of product. The adjust-
ments of the formulas are presented in Table 11.

Table 10
Relative contribution to the profit of the performance measures.

Contribution to the profits (%) buyback Contribution to the profits (%) revenue sharing Contribution to the profits (%) quantity flexibility
Arshinder et al. (2009a, 2009b) Re-calculation Arshinder et al. (2009a, 2009b) Re-calculation Arshinder et al. (2009a, 2009b) Re-calculation
Retailer
Total gain 50.4 52.1 51.6 47.4 57.8 59.0
Total loss 49.6 47.9 48.4 52.6 42.2 41.0
Supplier
Total gain 50.5 50.2 53.9 61.6 60.2 56.06
Total loss 49.5 49.8 42.1 38.4 39.8 43.94

Table 11
Arshinder et al. (2009a, 2009b) versus adjusted quantitative measures of coordination.

Measure of coordination Source Profit equation

Effectiveness of coordination – supplier Arshinder et al. (2009a, 2009b) P P PP P PP
EC s ¼ 31 As þ k l m ðakl alk ÞAm þ k l m ðakl alk amk þ akm aml alk Þ
Q P PP P PP
Adjustment EC s ¼ 31 As þ k l m ðakl alk ÞAm þ k l m ðakl alk amk þ akm aml alk Þ
P P P PP P PP
Effectiveness of coordination – retailer Arshinder et al. (2009a, 2009b) EC s ¼ 31 Db þ 31 þ k l m ðdkl dlk ÞDm þ k l m ðdkl dlk dmk þ dkm dml dlk Þ
Adjustment Q3 P PP P PP
EC s ¼ 1 Db þ k l m ðdkl dlk ÞDm þ k l m ðdkl dlk dmk þ dkm dml dlk
Permanent function SCCI Arshinder et al. (2009a, 2009b) P
SCCI ¼ 2u¼1 P u þ p12 p21
Q
Adjustment SCCI ¼ 2u¼1 pu þ p12 p21

Table 12
Corrected inheritance values starting from the values obtained in Phase I by Arshinder et al. (2009a, 2009b).

Buyer’s Contrib. to the Inheritance value Arshinder Inheritance value Supplier’s Contrib. to the Inheritance value Arshinder
performance profits (%) et al. (2009a, 2009b) (corrected) performance profits (%) et al. (2009a, 2009b)
measure measure
D1 (Sb) 7.9 0.589 0.136 A1 (Ss) 6.1 0.101
D2 (GWb) 15.9 0.136 0.266 A2 (GWs) 10.4 0.172
D3 (Rb) 34 0.275 0.568 A3 (WSs) 43.7 0.727

Table 13
Corrected effectiveness of coordination values.

Values of inheritance and relative importance of perf. Effectiveness of Values of inheritance and relative importance of perf. Effectiveness of
measures of the buyer (wrong) coordination (wrong) measures of the buyer (correct) coordination(correct)
D1 D2 D3 D1 D2 D3
D1 0.589 0.8 0.7 0.416 D1 0.136 0.8 0.7 0.380
D2 0.2 0.136 0.4 D2 0.2 0.266 0.4
D3 0.3 0.6 0.275 D3 0.3 0.6 0.568
72 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74

Table 14
SCC and SCCI – Arshinder et al. (2009a, 2009b) versus corrected values.

Arshinder et al. (2009a, 2009b) Corrected values

   
 0:4488 0:4   0:5292 0:4 
SCC ¼   SCC ¼  
0:6 0:5511  0:6 0:4708 
P Q
Permanent function: SCCI ¼ zu¼1 P u þ p12 p21 Permanent function: SCCI ¼ 2u¼1 P u þ p12 p21
SCCI = (0.4488)  (0.5511) + (0.4)  (0.6) = 0.4874 SCCI = (0.5292)  (0.4708) + (0.4)  (0.6) = 0.4891

Table 15
Re-calculated inheritance values for the buyer and the supplier, based on re-calculated profit functions.

Buyer’s performance Contrib. to Inheritance Supplier’s performance Contrib. to Inheritance

measure the value measure the value
profits (%) profits (%)
D1 (Sr) 16.33 0.2766 A1 (Ss) 8.55 0.1526
D2 (GWr) 9.33 0.1581 A2 (GWs) 5.95 0.1061
D3 (Rr) 33.36 0.5653 A3 (WSs) 41.56 0.7413

Table 16
A.2.2. Impact on normalized values of inheritance of performance
Re-calculated effectiveness of coordination values. measures, the effectiveness of coordination and the permanent
function representations
Values of inheritance and relative importance of the Effectiveness of
performance measures of the buyer coordination
Due to observed miscalculations in Arshinder et al. (2009a,
2009b), this section will allocate separate attention to graph theo-
Buyer 0.3947
D1 D2 D3
retical model based on the figures obtained by Arshinder et al.
D1 0.2766 0.8 0.7 (2009a, 2009b) and based on the results obtained in this article
D2 0.2 0.1581 0.4 by re-calculation.
D3 0.3 0.6 0.5653
Supplier 0.3438 – Re-calculations based on Arshinder et al. (2009a, 2009b).
D1 D2 D3
A1 0.1526 0.4 0.1
The inheritance values computed by Arshinder et al. (2009a,
A2 0.6 0.1061 0.2
A3 0.9 0.8 0.7413 2009b) according to the data obtained in Phase I of their computa-
tion are incorrectly calculated for the buyer. These should be 0.136

Table 17
Relative contribution of different performance measures in the profit function – related to Case I.

Performance Scenarios
measures
Buyback Contribution to Revenue Contribution to Quantity Contribution to Advanced Contribution to
contract profits (%) sharing profits (%) flexibility profits (%) purchase profits (%)
contract contract discount
Retailer
Revenue 192.65 15.0 977.97 49.8 194.81 33.4 195.16 47.7
realized
Salvage realized 421.89 32.9 50.74 2.6 95.33 16.3 5.94 1.5
Goodwill 53.49 4.2 60.82 3.1 54.50 9.3 54.66 13.3
incurred
Marginal cost 55.91 4.4 55.91 2.8 21.75 3.7 11.82 2.9
incurred
Wholesale 559.07 43.6 819.76 41.7 217.54 37.3 141.88 34.6
value
incurred
Total gain 668.04 52.1 931.32 47.4 344.65 59.0 249.83 61.01
Total loss 614.97 47.9 1033.88 52.6 239.29 41.0 159.64 38.99
Total 1283.01 100.0 1965.19 100.0 583.94 100.0 409.47 100.0
Supplier
Salvage realized 371.84 19.4 0.00 0.0 44.77 8.6 207.80 28.5
Goodwill 30.57 1.6 30.57 3.5 31.14 5.9 31.24 4.3
incurred
Marginal cost 335.44 17.5 335.44 38.4 130.52 24.9 348.00 47.7
incurred
Wholesale 559.07 29.2 508.11 58.1 217.54 41.6 141.88 19.5
value
incurred
Returns cost 619.73 32.3 0.00 0.0 99.48 19.0 0.00 0.0
Total gain 961.47 50.2 538.68 61.6 293.45 56.06 380.91 52.26
Total loss 955.17 49.8 335.44 38.4 230.00 43.94 348.00 47.74
Total 1916.64 100.0 874.12 100.0 523.45 100.0 728.91 100.0
 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74 73

instead of 0.589 for the salvage realized, 0.266 instead of 0.136 for
the goodwill term, and 0.568 instead of 0.275 for the revenue real-
ized. The values in the supplier’s case are correctly calculated. The
overview of the inheritance values of the buyer and the supplier
are presented in Table 12.
Having wrongly calculated inheritance values, the values of the
effectiveness of coordination (EC) are incorrect. In Arshinder et al.
(2009a, 2009b), these values come out to be 0.338 for the supplier
and 0.416 for the buyer. As presented in Table 13, the effectiveness
of coordination of the buyer should be 0.380 instead of 0.416. One of
the conclusions drawn by Arshinder et al. (2009a, 2009b) is that the
larger value of the effectiveness of coordination for the buyer shows
that coordination at the buyer’s end is more effective than coordina-
tion at the supplier’s end. Having values of effectiveness of 0.338
and 0.380 proves that the coordination gap is not as large as con-
cluded by Arshinder et al. (2009a, 2009b) in their calculations. As
a consequence, the total effectiveness of coordination takes the va-
lue of 0.7179 and not 0.7547.

Table 18
Relative contribution of different performance measures in the profit function – related to Case II.

Performance Scenarios
measures
Buyback Contribution to Revenue Contribution to Quantity Contribution to Advanced Contribution to
contract profits (%) sharing profits (%) flexibility profits (%) purchase profits (%)
contract contract discount
Retailer
Revenue 0.00 0.0 1170.62 43.0 2.16 0.4 2.51 0.4
realized
Salvage realized 206.58 100.0 164.57 6.0 119.99 24.1 221.25 32.2
Goodwill 0.00 0.0 7.32 0.3 1.01 0.2 1.17 0.2
incurred
Marginal cost 0.00 0.0 0.00 0.0 34.15 6.8 44.08 6.4
incurred
Wholesale 0.00 0.0 1378.82 50.7 341.53 68.5 417.19 60.8
value
incurred
Total gain 206.58 100.0 1386.15 50.94 119.99 75.95 464.96 67.76
Total loss 0.00 0.0 1335.19 49.06 378.86 24.05 221.25 32.24
Total 206.58 100.0 2721.34 100.0 498.84 100.0 686.21 100.0
Supplier
Salvage realized 371.84 37.5 0.00 0.0 44.77 6.5 207.80 32.6
Goodwill 0.00 0.0 0.00 0.0 0.58 0.1 0.67 0.1
incurred
Marginal cost 0.00 0.0 0.00 0.0 204.92 29.6 12.56 2.0
incurred
Wholesale 0.00 0.0 50.96 100.0 341.53 49.4 417.19 65.4
value
incurred
Returns cost 619.73 62.5 0.00 0.0 99.48 14.4 0.00 0.0
Total gain 371.84 37.5 0.00 0.0 250.26 36.20 208.47 32.66
Total loss 619.73 62.5 50.96 100.0 441.01 63.80 429.75 67.34
Total 991.57 100.0 50.96 100.0 691.27 100.0 638.21 100.0

Table 19
Relative contribution of different performance measures in profit function – related to Case IV.

Performance Scenarios
measures
Buyback Contribution to the Revenue sharing Contribution to the Quantity flexibility Contribution to the
contract profits (%) contract profits (%) contract profits (%)
Retailer
Revenue realized 2.51 0.3 1173.13 52.3 0.35 0.2
Salvage realized 427.83 47.9 56.68 2.5 101.27 54.0
Goodwill incurred 1.17 0.1 6.15 0.3 0.16 0.1
Marginal cost 44.08 4.9 44.08 2.0 9.93 5.3
incurred
Wholesale value 417.19 46.7 961.64 42.9 75.66 40.4
incurred
Total gain 427.83 47.92 1024.47 45.70 101.27 54.05
Total loss 464.96 52.08 1217.21 54.30 86.10 45.95
Total 892.79 100.0 2241.68 100.0 187.37 100.0
Supplier
Salvage realized 164.04 13.5 207.80 35.4 163.03 29.3
Goodwill incurred 0.67 0.1 0.67 0.1 0.09 0.0
Marginal cost 12.56 1.0 12.56 2.1 217.48 39.1
incurred
Wholesale value 417.19 34.4 366.23 62.4 75.66 13.6
incurred
Returns cost 619.73 51.0 0.00 0.0 99.48 17.9
Total gain 593.79 48.90 378.79 64.50 293.14 52.75
Total loss 620.40 51.10 208.47 35.50 262.60 47.25
Total 1214.19 100.0 587.26 100.0 555.74 100.0
74 K. Govindan et al. / Computers & Industrial Engineering 63 (2012) 58–74
Hence, the incorrectly-obtained value for EC used as input for
the supply chain coordination matrix (SCC) and for the supply chain
coordination index (SCCI) leads to further problematic results.
In notations, P1 and P2 are defined as inheritance values of total
gain of the buyer and the supplier for SCC Matrix representation:
 
P P12 
SCC ¼  1 . The values obtained in Arshinder et al. (2009a,
P21 P2 
2009b) for these inheritance values are P1 = 0.4488 and
P2 = 0.5511. After a detailed investigation, we found that these val-
ues should be P1 = 0.5292 and P2 = 0.4708, closer to the mean of 0.5
than the previous set of P1 and P2 values. However, the final value
for SCCI presents only a slight deviation from the initial value
showing an increase of only 0.3% in the preference for the quantity
flexibility contracts. The parallel between Arshinder et al. (2009a,
2009b) and corrected values is presented in Table 14.
The re-calculations for Phase II – The Graph Theoretical Ap-
proach – have been computed having as input the article in case
and the work of Kaur, Kanda, and Deshmukh (2006).
– Re-calculations based on the results obtained in this article.
Based on our re-calculated contribution to the profits (Table 6),
the inheritance values now demonstrate different values, as pre-
sented in Table 15.
It can be observed that the contribution to the profit of the
goodwill term of the supplier takes the value of zero. As already
mentioned in the first part of this work, the reason behind this is
the assumption made on the supplier’s production policy of pro-
ducing to order and the assumption of single replenishment period
along with quantity flexibility contract specifications.
The above inheritance values stay as input for re-calculating the
effectiveness of coordination. These take the value of 0.3947 for the
buyer and 0.3438 for the supplier and are presented in detail in
Table 16. The values show that coordination at the buyer is slightly
more effective than coordination at the supplier.
The re-calculated P1 and P2 take the value of 0.5345 and
0.4655, respectively. The SCC matrix then becomes: SCC ¼
 
 0:5345 0:4  evaluate supply chain coordination. International Journal of Logistics and Systems
 .
 0:6 0:4655 
Q Koulamas, C. (2006). A newsvendor problem with revenue sharing and channel
Considering that SCCI ¼ 2u¼1 P u þ p12 p21 , the permanent func-
tion by re-calculation is:
SCCI = (0.5345)  (0.4655) + (0.4)  (0.6) = 0.4888, interpreted
as 97.76% of the preferred supply chain (equal profit improvement
of 0.5 of both the supplier and the buyer).
For further model details, definitions, and data interpretation,
please refer to Arshinder et al. (2009a, 2009b).
Appendix B. Performance measures evaluation
See Tables (17–19).
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