Value of By-product Synergy: A Supply Chain Perspective

Abstract By-product synergy (BPS) is an innovative method to dispose of waste and create value from waste. We examine a supply chain composed of two competing manufacturers and one downstream processing plant with limited BPS capacity. The plant generates a by-product with waste from manufacturers and sells the by-product in a market with uncertain prices. We derive each manufacturer’s equilibrium decisions (production quantity and disposal amount) and the plant’s capacity investment plan (ex ante) and optimal transfer price (ex post). We show that BPS always benefits manufacturers, and although two opposite effects (competition effect and cost saving effect) appear, each manufacturer’s profit in limited BPS capacity is always lower than that in infinite BPS capacity. The reason is that the plant has the power to determine the transfer price and manufacturers prefer highest cost saving (enough BPS capacity) at the expense of highest competition effect. The effects of BPS technology parameters (i.e., processing cost of waste and investment cost of capacity) on supply chain performance are also discussed. Finally, we further explore the scenario that the plant determines the transfer price before the by-product’s price uncertainty is realized.