The NUSBOY.lng Model

Newsboy with Fixed Order Charge

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A common inventory management problem occurs when the product in question has limited shelf life (e.g., newspapers, produce, computer hardware). There is a cost of over ordering, because the product will shortly become obsolete and worthless. There is also an opportunity cost of under ordering associated with forgone sales. Under such a situation, the question of how much product to order to maximize expected profit is classically referred to as the *newsboy problem*. In this example, we assume demand has a normal distribution. However, this is not mandatory. Refer to any operations research textbook for a derivation of the formulas involved.

This model also has a fixed ordering charge to deal with. Assuming you decide to order, the fixed charge is a sunk cost and you should therefore order up to the same quantity, *S*, as when there is no fixed ordering charge. However, there may be cases where preexisting inventory is of a level close enough to *S* that the expected gains of a minimal increase in inventory are not outweighed by the fixed order charge. The problem now is to not only determine *S* (or "big S"), but also to determine the additional parameter, *s* (or "little s"), where when inventory exceeds *s* the optimal decision is to not incur a fixed charge by foregoing an order for additional stock. Inventory strategies such as this are referred to as "littles-big S", or (*s,S*), policies.

Keywords:

Forecasting | Probabilities | Uncertainty | Inventory | Product Management | Reorder Point | Economic Order Quantity | Newsboy Problem | Little s-big S | Transaction Costs |