Bidding for outsourcing contracts with capacity investments and cost asymmetry

Abstract

In this article, we consider a service supply chain where two vendor firms compete to win an information technology outsourcing contract from a client firm, which faces uncertain demand. The vendors’ variable operations costs are private information. The vendors also serve an external market with uncertain demand. After the award of the contract through bidding competition, vendors invest in capacity to meet their service requirements. We derive the optimal sourcing strategy for the client firm and the capacity investment decisions of the vendor firms. We characterise a threshold policy on the client’s outsourced requirements with respect to demand variability. We also observe that as the vendors’ mean cost increases, the requirements outsourced by the client firm decrease. In addition, we observe a threshold policy on the client’s outsourced requirements with respect to cost variability through numerical studies.

Keywords:

• IT outsourcing
• bidding
• vendor selection
• supply chain management
• cost asymmetry
• capacity investment

Acknowledgements

We thank the Editor, Associate Editor, and anonymous referees for their helpful comments on earlier versions of our article. Hazra was supported in part by the Airbus Chair in Supply Chain Management at the Indian Institute of Management Bangalore. Cheng was supported in part by The Hong Kong Polytechnic University under the Fung Yiu King - Wing Hang Bank Endowed Professorship in Business Administration.

Disclosure statement

No potential conflict of interest was reported by the authors.

Correction Statement

This article has been republished with minor changes. These changes do not impact the academic content of the article.

Notes

Notes

1 TCS won a US $200 million deal in Mexico, www.tata.com (accessed on 7th December 2017)

2 NEST transforms pensions and enrols 3 million members, www.tcs.com (accessed on 16th September 2017)

3 TCS opened the new Global Delivery Centre in Argentina, www.tcs.com, (accessed on 24th October 2017)

4 In the sealed-bid second-price auction format, all the vendors simultaneously submit their price bids. The vendor with the highest bid is declared as the winner. The winning vendor is awarded the contract at the price quote of the losing vendor. In this auction format, the dominant strategy of each vendor is to bid the reservation price (Vickrey, 1961). Hence, the winning vendor wins the competition at the reservation price of the losing vendor. So both the reverse auction and sealed-bid second-price auction are equivalent.