Offshore & Onshore contracts

Abstract

We study the buyer-seller relationship in a supply chain from the perspective of quality. In particular, we examine situations where quality levels of the product can be observed, yet, conformance cannot be enforced unless the buyer engages in costly, legally-binding activity, which we call audit. We assume that the cost of audit is borne by the buyer. We examine three types of remedies that can be taken in case an audit confirms the existence of quality problems, namely â Full Rebate", â Compensate" and â Repair" contracts. Under the Full Rebate regime, the seller rebates the buyer the purchase price of defective units. Under the Compensate regime (Expectation Damages), the buyer is compensated for his loss of profit due to defects. Finally, under the Repair regime (Specific Performance), the seller is made to repair all the defective units at his own expense. We examine the effects of these contracts on the performance of the supply-chain, and point out the implications for offshore and onshore supply networks, respectively. Our results indicate conditions where the buyer is not motivated to â squeeze" all the profits out of the supply chain, even in a setting of complete information, and even if the relationship is short-term. We extend the analysis to examine supply-chains which include more than one seller or buyer. Also, as part of the analysis, we study a problem, which we call the â Crime and Punishment" problem that is interesting in its own right.