Managing inventories in a two-echelon dual-channel supply chain

We present a two-echelon dual-channel inventory model in which stocks are kept in both a manufacturer warehouse (upper echelon) and a retail store (lower echelon), and the product is available in two supply channels: a traditional retail store and an Internet-enabled direct channel. The system receives stochastic demand from two customer segments: those who prefer the traditional retail store and those who prefer the Internet-based direct channel. The demand of retail customers is met with the on-hand inventory from the bottom echelon while the demand in the Internet-enabled channel is fulfilled through direct delivery with the on-hand inventory from the upper echelon. When a stockout occurs in either channel, customers will search and shift to the other channel with a known probability. A one-for-one inventory control policy is applied. In order to develop operational measures of supply chain flexibility, we define a cost structure which captures two different operational cost factors: inventory holding costs and lost sales costs. We discuss several insights that are evident from the parametric analysis of the model. We also examine the performance of two other possible channel distribution strategies: retail-only and direct-only strategies. Computational outcomes indicate that the dual-channel strategy outperforms the other two channel strategies in most cases, and the cost reductions realized by the flexibility of the dual-channel system may be significant under some circumstances. © 2003 Elsevier B.V. All rights reserved.