Remanufacturing authorization strategy for an original equipment manufacturer-contract manufacturer supply chain: Cooperation or competition?

Highlights

• The cooperation and competition relationship between an OEM and a CM is investigated.

• Remanufacturing authorization cooperation with a generalized Nash bargaining framework is examined.

• Two wholesale price settings, the exogenous and the endogenous wholesale price settings are considered.

• Authorization cooperation decision for the OEM and CM in three cases of Nash bargaining game is investigated.

• The authorization cooperation decision between the OEM and CM is affected by multiple factors.

Abstract

Due to the supply chain globalization, technology-oriented original equipment manufacturers are focusing on their core competencies by outsourcing the production to contract manufacturers. Many contract manufacturers also engage in remanufacturing and provide high quality remanufactured products in the market posing competition to the new products. This paper considers a supply chain with an original equipment manufacturer and a contract manufacturer. The contract manufacturer produces new products for the original equipment manufacturer and may compete with the original equipment manufacturer by producing and selling remanufactured products. The original equipment manufacturer can determine whether to authorize the contract manufacturer's remanufacturing. This paper investigates the wholesale price and retail price decisions for the new product and the conditions under which an authorization agreement can be reached between the two parties. In the analysis, two wholesale price settings are considered, the exogenous wholesale and endogenous wholesale price settings. In addition, three authorization decision bargaining scenarios are examined, including the original equipment manufacturer determining the authorization fee, the contract manufacturer determining the authorization fee, and two parties negotiating the authorization fee, to analyze the authorization cooperation outcomes via the generalized Nash bargaining framework. The results show that when the contract manufacturer determines the authorization fee, an authorization cooperation can never be reached whether in the exogenous or endogenous wholesale price setting. The original equipment manufacturer is more likely to set an authorization fee that leads to an authorization cooperation between the original equipment manufacturer and the contract manufacturer, especially when the contract manufacturer collects and remanufactures all the used products. Multiple factors influencing authorization cooperation decision are investigated, including the exogenous and endogenous wholesale price, production cost of new and remanufactured products, bargaining power of the two parties, and consumers' preference for remanufactured products.

Introduction

The secondary market has attracted many manufacturers due to its potential, market scale and environmental benefit (Sarkar et al., 2021; Saxena et al., 2020; Ullah et al., 2021; Zheng et al., 2019). Industry leaders such as BMW, IBM, DEC, Xerox (Ayres et al., 1997), and Kodak (Geyer et al., 2007) have been actively providing remanufactured products in the secondary market, such as automotive parts (Atasu et al., 2010), information technology (Oraiopoulos et al., 2012), and electrical and electronic products (Liu et al., 2018; Wang et al., 2017). The secondary market offers original equipment manufacturers (OEMs) the ability to compete in the low-end market without additional branding effort which would normally incur additional costs or even the risk of diluting their brand names (Atasu et al., 2008b, 2010; Zhou et al., 2020; Zhou and Yuen, 2021). For new products, it is a common practice for OEMs to outsource the manufacturing function to contract manufacturers (CMs) so that they can focus on their core competencies such as innovation and marketing (Kakabadse and Kakabadse, 2005). For example, Apple has outsourced product manufacturing to Foxconn. For remanufactured products, OEMs that do not focus on manufacturing may not have the capability or even the willingness to directly perform remanufacturing. Therefore, this situation creates an opportunity for CMs and retailers to become the major remanufacturer. For instance, GameStop, a consumer electronics retailer, even built its own remanufacturing facility in Grapevine, Texas because of the sizable profit from remanufacturing (Wang et al., 2017). Due to the profitability of remanufacturing, many CMs produce used products and directly sell remanufactured products to the downstream or consumer market. Foxconn, for instance, as Apple's CM, has begun to offer remanufactured iPhone on its official website, Ifengpai (Foxconn, 2015).

Although the existence of remanufactured products helps maintain the OEM's overall brand market share, the remanufactured products produced by the CM or retailer can cannibalize the market share of the OEM's new products (Shi et al., 2020; Wu and Zhou, 2016). For the OEMs that outsource the manufacturing function, the emergence of the remanufacturing industry has posed more challenges than opportunities. Those challenges include decisions on how to engage in the secondary market, how to maintain a win-win relationship with the CMs, and how to make optimal decisions for both new products and remanufactured products.

Authorized remanufacturing mode has been widely used by OEMs to enter the secondary market. In this mode, the OEM grants one or multiple manufacturers all remanufacturing activities from used product collection to marketing. Consequently, the OEM can charge a unit authorization fee for each remanufactured product. IBM, Hewlett Packard and Cisco, for instance, have chosen remanufacturing authorization as the strategy to enter the secondary market (Oraiopoulos et al., 2012; Zhang et al., 2020). For the OEM which is seeking a remanufacturing partner, it is reasonable to consider its CM as the preferred candidate because the CM already has the infrastructure and expertise to manufacture the OEM's products. For instance, Apple authorized Foxconn as its official remanufacturer soon after Foxconn began to engage in remanufacturing (Foxconn, 2015).

However, the remanufacturing authorization decision is not straightforward. Remanufacturing authorization can be a double-edged sword for the OEM and the CM. In general, remanufactured products are equipped with OEM-authorized signs and warrantied by the OEM if the authorization cooperation is reached. This can increase consumers' demand for remanufactured products as consumers' preference for OEM-approved remanufactured products is much higher than that for unauthorized remanufactured products (Liu et al., 2018; Ma et al., 2018; Zhou et al., 2020). In addition, given that the overall demand for new and remanufactured products is certain, a proportion of consumers who originally planned to purchase new products may choose to purchase authorized remanufactured products due to the price advantage. For the OEM, this inevitably decreases the demand for new products but provides additional revenue from the authorization fee. For the CM, the demand for remanufactured products is promoted by the authorization. However, it has to pay an authorization fee to the OEM for each remanufactured product sold. On the contrary, the CM can choose to remanufacture independently without seeking for the OEM's authorization if it believes that the OEM's authorization does not provide a higher profit. The OEM can choose to not enter the remanufacturing market if it believes that the loss in new product market cannot be compensated by the authorization fees from the CM. In addition, other decisions such as new product wholesale price and retail price can complicate the authorization decision-making. Therefore, it is important to investigate these decisions holistically.

This research investigates the remanufacturing authorization decision and pricing decision in a two-echelon supply chain with an OEM and a CM selling one type of products to the consumer market. The OEM (e.g., Apple) outsources the production of new products to the CM (e.g., Foxconn) based on wholesale price contracts. The CM determines the wholesale price of new products, and the OEM sells new products to the consumer market and determines the retail price. In addition to new products, the CM can choose to produce and sell remanufactured products. The CM can remanufacture used products independently or seek for the OEM's authorization and pay an authorization fee to the OEM. In the authorization cooperation scenario, the authorization fee is determined through a negotiation process, and the outcome depends on the bargaining power of the OEM and the CM. According to Nash bargaining framework, the party that has a greater bargaining power can decide the authorization fee, and thereby achieving first-mover advantage in authorization cooperation. In addition, this research considers two possible settings similar to Wang et al. (2013): the wholesale price of new products is exogenous, and the wholesale price of the new products is endogenous. This consideration is based on common industry practices. For example, an industry standard price may exist for contract manufacturing, which can be considered as exogenous. In the other case, the CM can establish the wholesale price based on its own cost and expected profit margin. More specifically, we try to address the following research questions:

• What are the key drivers of the remanufacturing authorization strategy?

• What are the equilibrium outcomes for the OEM and the CM in unauthorized and authorized remanufacturing strategy under the two wholesale price settings?

• Under what conditions should the OEM and the CM cooperate with each other in remanufacturing?

• What are the remanufacturing authorization strategies when the OEM and the CM have different bargaining powers?

This research focuses on both production cooperation and market competition between the OEM and the competitive CM. In the existing literature, Wang et al. (2013) is related to this study. They studied the OEM's new product outsourcing decisions with a competitive CM, whereas the OEM's remanufacturing authorization decisions are the focus in this research. Specifically, the major contributions of this paper are summarized as follows by comparing with Wang et al. (2013) and other existing literature such as Liu et al. (2018) and Zhou et al. (2020). First, Wang et al. (2013) considered a Cournot competition in the consumer market with substitutable products. However, a Bertrand-like price competition between new and remanufactured products is considered in this study. The outcome of the Bertrand-like price competition between the OEM and the CM and how they bargain with each other in remanufacturing authorization has not been investigated in the existing literature. The demand model in this research incorporates the cannibalization effect that the sales of the new products may be cannibalized by the remanufactured products. Second, in this paper, the sales quantity of remanufactured products is constrained by the sales quantity of new products, and the total quantity available for remanufacturing is not greater than the number of units that can be collected from consumers. The analyses show that the remanufacturing quantity decision has a direct impact on the authorization cooperation decision. However, Wang et al. (2013) and the other literature did not focus on these aspects. Third, Wang et al. (2013) considered the incentives of the OEM and the CM in choosing quantity leadership/followership in the cooperation for new product manufacturing. In this paper, how the remanufacturing authorization cooperation decision is affected by the existing cooperation for new product manufacturing is investigated. Finally, the OEM's and the CM's bargaining powers when deriving the authorization decision are considered. The results show that when the wholesale price is exogenous, an authorization agreement can never be reached when the CM is the supply chain leader. However, in the endogenous wholesale price setting, an authorization agreement can be reached under certain conditions when the CM is the supply chain leader.

Remanufacturing authorization decision is an important decision for an OEM who wants to interfere with the remanufacturing market as the existence of the remanufactured product would cannibalize customers' demand for the new product and significantly affect the OEM's core businesses. Similarly, from the CM's perspective, authorization cooperation decision is also quite important as the CM can either remanufacture independently without incurring an authorization fee or accepting the OEM's authorization to increase customers' valuation for its remanufactured products. The authorization cooperation decision would become complex when both cooperation and competition exist between the OEM and the CM. This research is motivated by a real practical example between Apple and Foxconn. However, in practice, only the authorization cooperation outcome between the two parties can be observed and there is no access to the details of the cooperation. In fact, such authorization contracts are not typically public information, and the details of the cooperation, such as terms and trade-offs in authorization cooperation, are usually private information between firms. Therefore, this study offers a potential explanation for remanufacturing authorization cooperation between an OEM and a CM when both cooperation and competition exist between the two parties from a bargaining power perspective.

The rest of this paper is organized as follows. Section 2 reviews the existing literature related to this research. Section 3 presents model setting and assumptions. Section 4 models and analyzes two remanufacturing strategies when the wholesale price of new products is exogenous. Section 5 presents two remanufacturing strategies when the wholesale price of new products is endogenous and identifies the optimal decisions for the OEM and the CM. Section 6 concludes the paper. All proofs are provided in the Appendix.