The evaluation of drop shipping option for e-commerce retailers

Many e-commerce retailers use drop shipping to satisfy demand. A retailer s imply forwards customers' orders to the manufacturer who fills the orders d irectly to the customers and is paid a predetermined price by the retailer. Advantages of drop shipping include lower costs of holding inventory, mate rials handling, and obsolescence. Disadvantages of drop shipping include fr agmented order delivery when a single customer order involves products from different manufacturers and longer delivery times. A mix of holding invent ory and drop shipping is frequently optimal for e-retailers. In this paper, we design an optimal mix strategy which captures the advantages of drop sh ipping and avoids many of its shortcomings. We use two different optimizati on criterion, maximizing the expected profit and maximizing the probability of achieving a target profit. We provide results for uniform, exponential, and normal demand distributions. We illustrate the results with numerical examples. (C) 2001 Elsevier Science Ltd. All rights reserved.