Single versus Multiple Sourcing: Drivers of Supplier Diversification

This paper considers a monopolistic manufacturer that makes supplier selection and ordering decisions in a setting in which suppliers are unreliable. We find that the manufacturer’s optimal decision to diversify orders across multiple suppliers might not only arise as a result of managing supply risk, but it could also be due to the concavity of the manufacturer’s revenue function or due to the suppliers facing diseconomies of scale in their production costs. We show that diversification mitigates supply risk if and only if the expected delivered amount is a strictly concave function of the order quantity. Consequently, some forms of supply risk, such as Bernoulli risk and proportional yield, cannot be mitigated by diversification.