Penalty and financial assistance in a supply chain with supply disruption

• To study non-delivery penalty and financing assistance strategies for disruption.
• To consider the capital constraint in the process of production recovery.
• Two decision-making scenarios, centralized and decentralized, are considered.
• The preference of different strategies is illustrated to be robust.

In a supply chain, when the supply is hit by an unexpected disruption, the supplier may face certain financial difficulty to resume normal production, causing a supply shortage as well as a loss to the manufacturer and the entire supply chain. Combining a penalty term in writing contracts with the provision of financial assistance is the “carrot and stick” approach used by a manufacturer to deal with supply disruption. This article investigates how the manufacturer, in a better financial situation, may use ex-ante penalty terms and ex-post financial assistance to compel the supplier to recover its production capability as much as possible. We find that, the MS (integration of financial assistance and the non-delivery penalty) is the best strategy for the manufacturer in most situations, but it is not a win–win strategy. An interesting result contrary to the conventional wisdom, is that the optimal delivery quantity for the supply chain under the centralized decision-making is less than that under the decentralized decision-making.