Chapter 15 - Managing service inventory

Vocabulary flashcards covering key terms and concepts from the Inventory Theory lecture notes.

Economic Order Quantity (EOQ)

The order quantity that minimizes total annual inventory cost when demand is constant and there are no stockouts or quantity discounts. Formula: Q* = sqrt(2DS/H), where D = annual demand, S = ordering cost per order, H = annual holding cost per unit.

Reorder Point (ROP)

Inventory level at which a new order should be placed to avoid a stockout, typically equal to the average demand during lead time.

Lead Time

The time between placing an order and receiving it; longer lead times require larger orders or more safety stock.

Safety Stock

Extra inventory kept to protect against demand variability and supply delays; increases service level and reduces stockouts.

Independent Demand

Demand for items that is driven by external customer demand and not directly linked to the demand for other items.

Dependent Demand

Demand for items that depends on the demand for another item (e.g., components for finished products).

Holding Cost (Carrying Cost)

Cost to hold one unit of inventory for a year, including capital tied up, interest, depreciation, insurance, and storage.

Ordering Cost

Cost incurred per purchase order, including processing, setup, and supplier liaison.

Stockout Cost

Cost incurred when demand cannot be met immediately, including lost sales, lost profits, and customer dissatisfaction.

Total Cost (TC) of Inventory

Sum of all annual inventory costs, typically including purchase cost, ordering cost, and holding cost; purchase cost is often fixed with respect to order quantity.

Quantity Discounts

Price variations that depend on order quantity, potentially changing the EOQ decision to take advantage of lower unit costs.

EOQ with Quantity Discounts

Compute EOQ for each price tier; if it falls outside the tier, adjust to the minimum quantity that qualifies for the discount and compare total costs.

ABC Classification

Inventory control method that classifies items into A, B, and C categories by importance or annual consumption to prioritize management effort.

Continuous Review System (Perpetual)

Inventory system where stock is monitored continuously and an order is placed when the level hits the reorder point; uses fixed order quantity and safety stock.

Periodic Review System (Order-Up-To)

Inventory system where reviews occur at fixed intervals and orders raise the inventory to a target level (order-up-to); order quantity varies.

Single-Period Model (Newsvendor Model)

Inventory model for perishable or one-period items; aims to maximize expected profit by balancing overstock and understock costs using the critical fractile.

Expected Value Analysis

Decision rule under uncertainty that computes expected profit by weighting outcomes by their probabilities.

Payoff Table

Table listing profits or losses for different demand outcomes and inventory decisions to compute expected value.

Critical Fractile (CF)

Threshold probability used in the Newsvendor problem; CF = (P − C) / (P − S), where P = price, C = cost, S = salvage; select Q to reach CF.

Break-even Discount Price

Discount price at which selling discounted inventory just covers costs, used to clear unwanted items (dogs).

Inventory Model with Planned Shortages

Model allowing backorders or shortages to reduce holding costs at the expense of backorder costs.

Backorder

Demand that is not immediately met and is fulfilled later; reduces immediate stockouts but incurs backorder costs.

Service Level

Percentage of demand during lead time that can be satisfied from on-hand stock; higher service level requires more safety stock.

Normal Distribution of Demand During Lead Time

Assumption that demand during lead time is normally distributed with mean μ (average daily demand × lead time) and standard deviation σ; used to compute safety stock and ROP.

Salvage Value

Amount recovered for unsold inventory at the end of the period; used in cost calculations in the Newsvendor and discount models.

Replenishment Lead Time

Lead time specifically for replenishment orders; used in calculating reorder points and safety stock.

Order-Up-To Level

Target inventory level in periodic review systems to which stock is raised during each review period.

Planned Shortages

Strategy allowing shortages (backorders) to reduce holding costs at the cost of backorder penalties.