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Behavioral Operations; Minimum Order Quantity Contracts; Buyback; Revenue Sharing
Tuncel O., Taneri N., Hasija S. (2022). Why Are Minimum Order Quantity Contracts Popular in Practice? A Behavioral Investigation Manufacturing and Service Operations Management, 24(4), pp. 2166-2182.
Problem definition: in theory, all coordinating contracts are equivalent; however, the minimum order quantity (MOQ) contract is observed to be more popular in practice. The authors seek to understand whether decision makers as suppliers can perform better with the MOQ contract and, if so, why. The authors also study whether MOQ is indeed the preferred contract when subjects are allowed to choose among coordinating contracts.Academic/practical relevance: the behavioral operations management literature has established a trade-off between complex coordinating and simple noncoordinating contracts. This paper fills a gap in the literature by studying whether and how the coordinating MOQ contract attenuates this trade-off.Methodology: first, the authors test whether subjects in the role of suppliers given only a single contract type can optimize its parameters.Second, the authors introduce treatments where the coordinating contracts subject to demand risk are hedged such that risk is eliminated.Third, the authors repeat two of the initial sets of treatments with a cognitive load survey and introduce single-variable versions of those treatments to reduce cognitive burden.Fourth, the authors introduce a novel experimental design where, in each period, subjects choose both the type of contract to offer and the parameters of that contract.Results: the authors find that (i) subjects perform significantly better with the MOQ contract compared with other coordinating contracts; (ii) this can be attributed to the risk inherent in and cognitive burden induced by those contracts; and (iii) subjects choose the MOQ contract more frequently over theoretically equivalent coordinating contracts.Managerial implications: the authors show that the trade-off between efficiency and complexity can be mitigated by simpler yet efficient contracts. Hence, there is considerable benefit to identifying contractual mechanisms that ameliorate the adverse effects of complexity. This explains the prevalence of MOQ terms in supply contracts.