Draw Decision Tree for the case

Purchase from the current Chinese supplier Purchase from the local supplier Go with the hybrid approach where management will order a base load of 900 units from Chinese supplier for each of the two periods, making up any shortfall in each period at the local supplier

Evaluate expected profit for each of the above three options and give your recommendation

The Sourcing Decision at Forever Young Forever Young is a retailer of trendy and low-cost apparel 1,040 units, Forever Young will sell 1,040 units. How- in the United States. The company divides the year into ever, if demand turns out to be lower than 1,040, the four sales seasons of about three months each and brings company will have leftover product for which it will not in new merchandise for each season. The company has be able to recover any revenue. historically outsourced production to China, given the The short lead time of the local supplier allows lower costs there. Sourcing from the Chinese supplier Forever Young to keep bringing product in a little bit at a costs 55 yuan/unit (inclusive of all delivery costs), which time, based on actual sales. Thus, if the local supplier is at the current exchange rate of 6.5 yuan/$ gives a vari- used, the company is able to meet all demand in each able cost of under $8.50/unit. The Chinese supplier, period without having any unsold inventory or lost sales. however, has a long lead time, forcing Forever Young to In other words, the final order from the local supplier will pick an order size well before the start of the season. exactly equal the demand observed by Forever Young. This does not leave the company any flexibility if actual demand differs from the order size. A Potential Hybrid Strategy A local supplier has come to management with a proposal to supply product at a cost of $10/unit but to do The local supplier has also offered another proposal that would allow Forever Young to use both suppliers, each so quickly enough that Forever Young will be able to make supply in the season exactly match demand. Man- playing a different role. The Chinese supplier would pro- duce a base quantity for the season and the local supplier agement is concerned about the higher variable cost but would cover any shortfalls that result. The short lead finds the flexibility of the onshore supplier very attrac- time of the local supplier would ensure that no sales are tive. The challenge is to value the responsiveness pro- vided by the local supplier. lost. In other words, if Forever Young committed to a base load of 900 units with the Chinese supplier in Uncertainties Faced by Forever Young a given period and demand was 900 units or less, noth- ing would be ordered from the local supplier. If demand, To better compare the two suppliers, management identifies demand and however, was larger than 900 units (say, 1,100), the exchange rates as the two shortfall of 200 units would be supplied by the local sup- major uncertainties faced by the company. Over each of the next two periods (assume them to be a year plier. Under a hybrid strategy, the local supplier would each), demand may go up by 10% with a probability of 0.4, stay as the end up supplying only a small fraction of the season's previous period demand with a demand. For this extra flexibility and reduced volumes, probability of 0.2, or go down by 10% with a probability of 0.4. Demand in the current period was 1000 however, the local supplier proposes to charge $11/unit units. Similarly, over each of the next two periods, the yuan may strengthen if it is used as part of a hybrid strategy. by 5% with a probability of 0.5 or weaken by 5% with a probability of 0.5. The exchange rate in the current period was 6.5 yuan. Ordering Policies with the Two Suppliers Given the long lead time of the offshore supplier, For- ever Young commits to an order before observing any demand signal. Given the demand uncertainty over the next two periods and the fact that the margin from each unit (about $11.50) is higher than the loss if the unit remains unsold at the end of the season (loss of about $8.50), management decides to commit to an order that is somewhat higher than expected demand. Given that expected demand is 1,000 units over each of the next two periods, management decides to order 1,040 units from the Chinese supplier for each of the next two peri- ods. If demand in a period turns out to be higher than