The impact of different contract structures on IT investment in logistics outsourcing

Abstract

The information technology (IT) capabilities of third-party logistics (3PL) providers are important for manufacturers because they enable manufacturers to optimize their operations. However, there exists an “IT gap,” or discrepancy between manufacturers' expectations and their satisfaction with the IT capabilities of 3PL providers. Previous studies suggest that 3PL providers' IT investments are critical and necessary for developing superior IT capabilities, which, in turn, contribute to firm performance. To motivate 3PL providers to invest in developing their IT capabilities and, thus, reduce the “IT gap,” we analyze a 3PL provider's IT investment, as well as its impact on supply chain profit, under four logistics outsourcing contract structures: a fixed-price contract, a contract contingent on the on-time delivery rate, a profit-sharing contract, and a revenue-sharing contract. We find that the 3PL provider's IT investment is higher under the contingent and profit-sharing contract structures than it is under the other two contract structures. The 3PL provider's IT investment under the contingent contract is no more than that of the profit-sharing contract. Additionally, we find that the contingent and profit-sharing contracts result in a higher profit within the supply chain than the other two contract structures do, and that the supply chain profits under contingent and profit-sharing contracts are dependent on the 3PL provider's IT investment. The results provide 3PL buyers and providers guidance in terms of using contract structures to motivate IT investment in logistics outsourcing.