Early payment, R&D investment, and firm performance in a technology-intensive supply chain

Early payment has recently emerged to financially support capital-constrained suppliers in developing new component products. Under this financing scheme, manufacturers act as both buyers and lenders and directly fund upstream suppliers, thus causing changes in risk exposure and price decisions in these supply chains. We build a theoretical model that explicitly characterises the interactions among a manufacturer, a supplier, and a bank to identify how financing options affect their R&D investments and payoffs. By comparing early payment to bank financing, we find that if the manufacturer charges a relatively high interest rate, early payment yields much more R&D investments. For the supply chain participants, the relative benefits of the two financing schemes are crucially driven by the tradeoff between the prepayment interest effect and the risk sharing effect associated with the values of R&D capability and fixed assets. For the whole supply chain, early payment is more favourable as long as its interest rate is in the medium range. Further, we extend the base model to assess the consequences of the manufacturer’s superior information and full early payment.