Competing on Quality and Supply Chain Networks

Quality was recognized already by Feigenbaum in 1982 as the single most important force leading to the economic growth of companies in international markets. Also, Buzzell and Gale in 1987 in their book, The PIMS Principles: Linking Strategy to Performance, recognized that, in the long run, quality is the most important factor affecting  business unit's performance and competitiveness relative to the quality levels of its competitors.

So, why are we seeing so many examples of quality failures?

Recent shocking examples have included  revelations, as reported by Bloomberg News, that consumers in both China and Japan of hamburgers, chicken nuggets and other products that they bought from some of the world’s best-known food chains -- including McDonald’s Corp. (MCD) and Yum! Brands Inc. (YUM)’s KFC and Pizza Hut -- were made with spoiled meat.The meat came from a Chinese unit of OSI Group Inc., which is based in Illinois and is a global food processor. Allegations have included also that meat that was dropped on the ground was then scooped up and processed further. 

Or what about the case of Takata Corp., which is the world's second largest supplier of airbags for automobiles. There are ongoing recalls called for by four Japanese car manufacturers and even BMW since the airbag inflator may rupture and injure passengers and may also catch on fire.

And as K.R. Karu eruditely wrote on the Sparta Systems blog on the topic of supplier quality management (and lack thereof): A few years ago, a single supplier of a peanut based ingredient single handedly impacted the entire peanut based food industry.  This company supplied a contaminated ingredient that was used by over 390 separate companies in nearly 4,000 different peanut products, including peanut butter, candies, oils and more.  The results were over a billion dollars in losses to the industry, with peanut butter sales dropping by more than 25%, regardless if the ingredient was used in the product or not.  More important than these financial losses was the danger to the consuming public.  Over 700 people were made ill by this contamination, and there were 9 confirmed related deaths.  The supplier was forced to close their doors, and criminal charges were brought against the executives of this company.

The biggest asset of any company is its reputation and quality failures, as we are seeing now even with General Motors, and the faulty ignition switch, can have lasting impacts and affect the bottom line because of costly recalls.

Quality management and how to compete on quality in a supply chain context are topics that we have been deeply researching over the past several years. Whether it is food or pharmaceuticals or consumer goods such as cars or high tech products, we all want and deserve for our hard-earned cash to have the quality in our products that we expect and have paid for.

Our first paper on product quality, in which we considered a single firm, with a focus on pharmaceuticals, with multiple manufacturing plants and multiple possible outsourcers, was: Pharmaceutical Supply Chain Networks with Outsourcing Under Price and Quality Competition, Anna Nagurney, Dong Li, and Ladimer S. Nagurney, International Transactions in Operational Research 20(6): (2013) pp 859-888. In this paper we captured the cost of disrepute, or the cost associated with a firm's reputational loss due to inferior quality. In this paper the demand for the product was fixed at the various demand markets.

In the next paper, which we have just revised, and expect to hear good news on soon, A Supply Chain Network Game Theory Model with Product Differentiation, Outsourcing of Production and Distribution, and Quality and Price Competition, Anna Nagurney and Dong Li, we captured competition among multiple firms who compete in quantities and quality and also have the options of outsourcing the production and delivery of their products, which are differentiated by brands. Here, again, we assumed fixed demands and also included the cost of disrepute.

In the paper, A Dynamic Network Oligopoly Model with Transportation Costs, Product Differentiation, and Quality Competition, Anna Nagurney and Dong Li, Computational Economics 44(2): (2014) pp 201-229, which was just recently published, we demonstrated how firms adjust their quality levels and quantities over time through a dynamic adjustment process until an equilibrium is achieved. The consumers now respond to the quality levels and quantities of the products through the prices that they are willing to pay for the differentiated products.

And, in a paper, just published last week, Equilibria and Dynamics of Supply Chain Network Competition with Information Asymmetry in Quality and Minimum Quality Standards, Anna Nagurney and Dong Li, Computational Management Science 11(3): (2014) pp 285-315, we investigated, in a supply chain network context, the impacts of information asymmetry. If producers know the quality of their products, but consumers only know the average quality, what can happen? This kind of quality information asymmetry was introduced (but not in a supply chain context) by George Akerlof in his famous lemons paper in 1970 (which was rejected 3 times by journals and finally published and he was awarded the Nobel Prize in Economic Sciences in 2001 for this work). Akerlof's paper is: "The market for `lemons': Quality uncertainty and the market mechanism," Quarterly Journal of Economics, 84(3), 488-500. Akerlof shared the Nobel with Professor Joseph Stiglitz and Michael Spence. In our paper, we show how critical it is for policy-makers to work together on the imposition of minimum quality standards so that the do-gooders don't get cheated in terms of profits and so that consumers also don't lose out.

Resilience of Operations Researchers and Raytheon

One of the favorite comments that I received at the recent INFORMS Annual Conference in Minneapolis that I wrote about here and here was from Professor Leon Lasdon of the University of Texas Austin. As he and I were exiting the room where the 2013 INFORMS Fellows Award lunch took place last Monday he said to me: "Anna, we take a licking but we keep on ticking."

I thought that statement was simply perfect and it speaks to the importance of resilience.


Another favorite comment that  I received was  from Professor Michael Florian of the University of Montreal, who is also an INFORMS Fellow and a recipient of the Robert Herman Lifetime Achievement Award for his contributions to transportation science. At the reception at the Transportation Science & Logistics Society business meeting (also last Monday), Florian and I reminisced about Martin Beckmann, (also a Robert Herman Award recipient),  one of the authors of the classic Studies in the Economics of Transportation book, who is in his mid 80s and still going strong.We talked about physical fitness and stamina and, since Florian is a skier, he said to me: "Anna, do you know what happens to skiers? They do not die, they just go downhill."

And, speaking of resiliency, one of my doctoral students, Dong "Michelle" Li, and I arrived back from Minneapolis to Amherst around 1:00AM Wednesday morning and, after only a few hours of sleep, we were off to speak at a Manufacturing Technology Networking event hosted and organized by Raytheon. The event took place at the Tewksbury Country Club (our first time there) and we were so lucky that Mr. James Capistran, the Executive Director of the UMass Innovation Institute, gave us a ride, via gorgeous route 2 with the radiant Fall foliage, in his nice new car with a voice-operated GPS.

Michelle and I were the only invited female speakers so it was essential to show up and to  give our presentations, which we did and we had a great time.Speaking of the serendipity of showing up and the importance of face time, my husband's grad school room-mate in physics at Brown University, who works now at Raytheon,  showed up to see me. What a great surprise it was. My brother also works at Raytheon so the event was extra special. The presentations were by faculty from UMass Amherst, UMass Lowell, RPI, MIT, and WPI.  So many knowledgeable techies and geeks were at the Raytheon event so the questions were great. There were two parallel sessions, and my chairman also spoke in a set of sessions parallel to ours. There were about 200 attendees, which also included suppliers and Raytheon personnel even from Arizona and California.

My presentation was on "Networks Against Time: From Food to Pharma." In my presentation,  I focused on some of the highlights of our latest research including findings reported in our book "Networks Against Time: Supply Chain Analytics for Perishable Products."

Michelle's presentation was on "A Dynamic Network Oligopoly Model with Transportation Costs, Product Differentiation, and Quality Competition." Her talk was based on our paper of the same name, which is now in press in the journal Computational Economics.

We managed to get a few photos taken during some of the breaks and during my presentation.

Thanks to Raytheon for a very special workshop!

Supply Chain Game Theory and Product Quality -- It's About Your Reputation

Quality of its products is the basis of a firm's reputation.

And, needs for improvements in product quality drive innovation.

Quality is what we, as consumers, seek in the food that we eat, the clothes that we wear, the toys that our children (and, perhaps, even we) play with, the latest high tech products that we crave, the life-saving and prolonging medicines that those in need take, the cars that we drive, the planes that we fly in,  the homes that we live in and the appliances that we use, and, of course,  the air that we breathe.

As supply chains have become more global the news about quality product shortcomings around the world is reaching beyond borders and is shocking from the Bangladesh disasters and fast fashion to the adulteration of milk and infant formulas   to the heparin adulteration which led to a pharmaceutical identity crisis, to the mysterious food-borne illness from lettuce served at Red Lobster and Olive Garden, to name just a few. Moreover, the manufacturing processes themselves may lead to the worsening of the quality of the air and the environment as has been well-documented, especially, most recently in China..


Many firms are identified by their products and their products are their brands. 

Game theory can illuminate not only which supplier a firm should select but also whether to outsource or to manufacture/produce the product in-house and the associated impacts on costs, revenues, and profits.

But game theory can help firms to do even more in terms of quantifiable analysis and evaluation and this is why game theory is so powerful. It enables us to  quantify the loss in a firm's reputation through a disrepute cost if the quality of the delivered product is substandard.

It is essential to capture the possible loss in reputation as we have done in two papers. In the first paper, we focused on the pharmaceutical industry, and in the second, we captured competition among firms with outsourcing options, which is applicable to many different industries. In the latter, firms compete in quality and the firms that they possibly outsource to compete in prices and quality, as well. However, it is the original firms' reputation that gets damaged if the outsourced product is lower in quality.

The first paper noted above is  Pharmaceutical Supply Chain Networks with Outsourcing Under Price and Quality Competition, Anna Nagurney, Dong Li, and Ladimer S. Nagurney, in press in the International Transactions in Operational Research. Here we assume that the original firms have perfect quality, whereas the firms that they outsource to compete on quality but they seek to maximize their profits.

The second paper is  A Supply Chain Network Game Theory Model with Product Differentiation, Outsourcing of Production and Distribution, and Quality and Price Competition, Anna Nagurney and Dong Li. In it, we propose both static and dynamic supply chain network game theory models, whose solution provides each original firm with its optimal in-house quality level as well as its optimal in-house and outsourced production and shipment quantities that minimize the total cost and the weighted cost of disrepute, associated with lower quality levels and the impact on a firm’s reputation. The algorithm that we propose and implement tracks the dynamic trajectories in discrete time of the evolution of the product flows, quality levels, and prices over space and time until the equilibrium state is achieved. We provide numerical examples that illustrate the model and computational framework.

Also, in our paper, A Dynamic Network Oligopoly Model with Transportation Costs, Product Differentiation, and Quality Competition, Anna Nagurney and Dong Li, in press  in Computational Economics, we developed a new dynamic model of Cournot-Nash oligopolistic competition that includes production and transportation costs, product differentiation, and quality levels in a network framework. The production costs capture the total quality cost, which, in turn, can also represent the R&D cost. With better R&D, firms may ensure that the consumers get the quality that they expect and deserve.

The above supply chain game theory models that we have constructed also allow for policy evaluations and the investigation of such a question as:  What if a government would impose a minimum quality standard for a type of product?

Pretty cool how game theory can illuminate so much in terms of operations in the real world!