Inventory Models

Planned Shortage Models

PLANNED SHORTAGE MODEL

Assumes no customers will be lost
because of stockouts
Instantaneous reordering
This can be modified later using standard
reorder point analyses

Stockout costs:
Cb -- fixed administrative cost/stockout
Cs -- annualized cost per unit short
Acts like a holding cost in reverse

Reorder when there are S backorders

PROPORTION OF TIME
IN/OUT OF STOCK
T1 = time of a cycle with inventory
T2 = time of a cycle out of stock
T = T1 + T2 = time of a cycle
IMAX = Q-S = total demand while in stock.
T1/T = Proportion of time in stock.
Multiplying by D/D gives T1D/TD =
(Demand while in stock)/(Demand for cycle) =

(Q-S)/Q

T2/T = Proportion of time out of stock

Multiplying by D/D gives T2D/TD =
(Demand while out of stock)/(Demand for cycle) =

S/Q

Average Inventory
Average Number of Backorders
Average Inventory =
(Avg. Inv. When In Stock)(Proportion of time in stock)
=(IMAX/2)((Q-S)/Q) = ((Q-S)/2)((Q-S)/Q) = (Q-S)2/2Q

Average Backorders =
(Average B/O When Out of Stock)(Proportion of time out of stock)

= (S/2)(S/Q) = S2/2Q

TOTAL ANNUAL COST EQUATION

TC(Q,S) =

CO(Avg. Cycles Per Year) +

CH(Average Inv.) +
Cs (Average Backorders) +
Cb (Number B/Os
Per Cycle) (Avg. Cycles Per Year) +
CD
= CO(D/Q) +
Ch((Q-S)2/2Q) +

Cs(S2/2Q) +

CbS(D/Q) +

CD

OPTIMAL ORDER QUANTITY, Q*

OPTIMAL # BACKORDERS, S*
Take partial derivatives with respect to Q and S and set = 0.
Solve the two equations for the two unknowns Q and S.

2CO D

Q*
Ch

Ch Cs ( DCb ) 2

C s Ch C s

ChQ * DCb
S*
Ch Cs

EXAMPLE
SCANLON PLUMBING
Saunas cost $2400 each
(C = 2400)
Order cost = $1250
(CO = 1250)
Holding Cost = $525/sauna/yr. (Ch = 525)
Backorder Goodwill Cost $20/wk (CS =1040)
Backorder Admin. Cost = $10/order (Cb = 10)
Demand = 15/wk
(D = 780)

RESULTS

2(1250)(780)
Q*

525

525

1040
(
780
*
10
)

74

1040 (525)(1040)

(525)(74) (780)(10)
S*
20
525 1040
Re order 74 when there are 20 backorders

Using the Template

Input
Parameters

Optimal
Values

Planned Shortage
Worksheet

REORDER POINT ANALYSIS

Reorder point can be affected by lead time.
If lead time is fixed at L years, order is
placed accounting for the fact that LD items
would be demanded during lead time.
Thus order is places when there are S*-LD
backorders.
If this is a negative number, this implies an
order is placed when there are LD - S* items left
in ventory.

Example
What If Lead Time Were 4 Weeks?
Demand over 4 weeks = 4(15) = 60
4 weeks = .07692 years (for template)

Want order to arrive when there are 20

backorders.
Thus order should be placed when there
are 60 - 20 = 40 saunas left in inventory

Using Template

Enter Lead Time

Reorder Point = 40

Review
In planned shortage models there can be both
time-dependent and time-independent shortage
costs
There are 2 unknowns which are found by
taking partial derivatives of the total cost
equation
Q* -- the amount to order
S* -- the number of backorders when order is placed

The actual reorder point may be adjusted for

lead time.
Use of template