'Consignment stock' for a two-level supply chain with entropy cost

'Consignment stock (CS)' policy is widely applied in industrial relationships today. It reduces the vendor's holding costs by stocking its inventory at a cheaper location (the buyer) and guarantees the buyer an uninterrupted supply. Studies that investigated the CS problem have adopted a classical inventory management approach. This paper modifies a model of a two-level (vendor-buyer) supply chain that operates under CS contract by applying the second law of thermodynamics so as to reduce the entropy cost of the supply chain. Mathematical models for constant commodity flow were developed for infinite and finite planning horizons. Two supply chain coordination mechanisms, namely the CS and Hill's models, were compared for the case when entropy cost is included. The results showed that the performance of the CS improved when entropy cost are considered. It was also shown to be more responsive, profitable and competitive than the other (integer-multiplier) coordination mechanism. [Received 20 January 2012; Revised 20 May 2012; Revised 13 September 2012; Accepted 13 October 2012]