Concurrent sourcing behavior and bounded rationality under capacity constraints

Abstract

We study the decision-making behavior of concurrent sourcing firms under risk of all-or-nothing disruptions of an outsourced supplier. We perform a controlled experiment to test the effect of differing production capacity constraints on ordering decisions. Although the ability to concurrently source is covered by a sunk cost and supply disruption is mitigated by Contingent planning, we find strong evidence for order amount and diversification bias, both when sole and dual sourcing are theoretically optimal. We show that order amount and diversification bias is predicted by our model for bounded rationality. Firms that consider the decision to make and/or buy components used for finished goods production may use our model to predict the performance of their strategic choices. In particular, our insights illustrate how costly biases can negatively impact mitigation strategies that aim to reduce disruption risk. Our experimental findings empirically demonstrate expected profit losses of up to 35%, relative to the optimal values. Given the demonstrated costs of sourcing volume and diversification errors, this work provides important predictive insights for firms which are considering the use of concurrent sourcing.