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What to order?
What are the issues?
A Sample Problem
Commit 10,000 units before show
Commit 10,000 units after show
Minimum of 600 units
A First Approach
Ignore differences in
Profit margins
Salvage values
Sample Problem
Style
Mean Forecast Std Deviation in Demand
Gail
1,017
388
Isis
1,042
646
Entice
1,358
496
Assault
2,525
680
Teri
1,100
762
Electra
2,150
807
Stephanie
1,113
1,048
Seduced
4,017
1,113
Anita
3,296
2,094
Daphne
2,383
1,394
Normal Distribution
0.45
0.4
0.35
0.3
0.25
0.2
0.15
Std Dev.s
0.1
0.05
0
-5
-4
-3
-2
-1
Idea 1
Make all products equally likely to
sell out
Choose a single std dev. To set
production quotas for all products
Mean
Forecast
1,017
1,042
1,358
2,525
1,100
2,150
1,113
4,017
3,296
2,383
Std Deviation in
Demand
388
646
496
680
762
807
1,048
1,113
2,094
1,394
Total Production
Order
Amount
1,017
1,042
1,358
2,525
1,100
2,150
1,113
4,017
3,296
2,383
20,001
Std. Devs
0
0
0
0
0
0
0
0
0
0
0
Probability of Sell out
Probability
of Sell Out
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
0.50
Number of Standard Deviations
50%
Normal Distribution
0.45
Probability
we discount
last item =
Probability we
stock out =
Probability
demand exceeds
over qty =
0.86
0.35
0.3
0.25
Probability
demand is
smaller than
order
quantity =
0.2
0.15
Std Dev.s
0.1
0.05
0.14
0
-5
-4
-3
-2
-1
A Second Idea
Look at 1 Product
How to trade off risks of overstock
(discounting) vs risks of understock (lost
sales)?
If we order Q
The last item faces what risk of being discounted?
Probability Demand < Q = F(Q)
We want to be indifferent
We want two to be equal
Expected loss from Overstock =
CO*F(Q)
Expected loss from Lost Sale = CL*(1F(Q))
A little Algebra:
F(Q) = CL/(CO+CL)
Example
Oversimplification
Lost Sale: CL = Selling Price - Cost
Discount: CO = Cost - Salvage Value
Electra:
Selling Price $173
Cost $ 50
Salvage
$ 0
Balancing Risks
Style
Gail
Isis
Entice
Assault
Teri
Electra
Stephanie
Seduced
Anita
Daphne
Mean
Forecast
1,017
1,042
1,358
2,525
1,100
2,150
1,113
4,017
3,296
2,383
Probability of
Style
Sell Out
Gail
0.86
Isis
0.86
Entice
0.86
Assault
0.86
Teri
0.86
Electra
0.86
Stephanie
0.86
Seduced
0.86
Anita
0.86
Daphne
0.86
Std Deviation in
Demand
388
646
496
680
762
807
1,048
1,113
2,094
1,394
Total Production
Expect Cost of
Lost Sale
$
51.33
$
41.92
$
25.67
$
34.22
$
62.45
$
105.23
$
71.01
$
19.68
$
36.79
$
83.84
Order
Amount
Std. Devs
606
(1.06)
357
(1.06)
832
(1.06)
1,804
(1.06)
292
(1.06)
1,294
(1.06)
2
(1.06)
2,837
(1.06)
1,075
(1.06)
905
(1.06)
10,003
-1.0605
Probability of Sell out
Probability
Last Item
is
Discounted
0.14
0.14
0.14
0.14
0.14
0.14
0.14
0.14
0.14
0.14
Expect Cost of
Discount
$
7.22
$
7.22
$
7.22
$
7.22
$
7.22
$
7.22
$
7.22
$
7.22
$
7.22
$
7.22
Salvage
Price
Cost
Value
$
110 $
50 $
$
99 $
50 $
$
80 $
50 $
$
90 $
50 $
$
123 $
50 $
$
173 $
50 $
$
133 $
50 $
$
73 $
50 $
$
93 $
50 $
$
148 $
50 $
Number of Standard Deviations
86%
Ratio
Rec. Ord. Q
0.55
1,061.30
0.49
1,033.82
0.38
1,199.95
0.44
2,430.00
0.59
1,280.25
0.71
2,598.90
0.62
1,444.34
0.32
3,481.05
0.46
3,098.17
0.66
2,966.21
20,593.99
Expect
Probability
Assoc. Std Probability Cost of Last Item is
Dev
of Sell Out Lost Sale Discounted
0.11
0.45 $ 27.27
0.55
(0.01)
0.51 $ 24.75
0.49
(0.32)
0.62 $ 18.75
0.38
(0.14)
0.56 $ 22.22
0.44
0.24
0.41 $ 29.67
0.59
0.56
0.29 $ 35.55
0.71
0.32
0.38 $ 31.20
0.62
(0.48)
0.68 $ 15.75
0.32
(0.09)
0.54 $ 23.12
0.46
0.42
0.34 $ 33.11
0.66
Expect
Cost of
Discount
$ 27.27
$ 24.75
$ 18.75
$ 22.22
$ 29.67
$ 35.55
$ 31.20
$ 15.75
$ 23.12
$ 33.11
Additional Thoughts
Whats the derivative of the cost as a
function of order quantity?
Expected Cost of Discounting Last
Item (increases with order size) Expected Cost of Stocking Out
(decreases with order size)
Decrease Order with largest
estimated derivative
Estimated Derivative
Style
Gail
Isis
Entice
Assault
Teri
Electra
Stephanie
Seduced
Anita
Daphne
Mean
Forecast
1,017
1,042
1,358
2,525
1,100
2,150
1,113
4,017
3,296
2,383
Std Deviation in
Demand
388
646
496
680
762
807
1,048
1,113
2,094
1,394
Total Production
Order
Amount
1,060
1,033
1,199
2,429
1,279
2,598
1,443
3,480
3,097
2,965
20,584
Probability of
Sell Out
0.46
0.51
0.63
0.56
0.41
0.29
0.38
0.69
0.54
0.34
Expect Cost
of Lost Sale
$
27.33
$
24.78
$
18.77
$
22.25
$
29.71
$
35.60
$
31.23
$
15.76
$
23.13
$
33.13
Probability
Last Item is
Discounted
0.54
0.49
0.37
0.44
0.59
0.71
0.62
0.31
0.46
0.66
Expect
Cost of
Discount
$
27.22
$
24.72
$
18.71
$
22.19
$
29.65
$
35.53
$
31.18
$
15.74
$
23.11
$
33.10
Estimated
Derivative
$
(0.11)
$
(0.06)
$
(0.06)
$
(0.05)
$
(0.06)
$
(0.07)
$
(0.05)
$
(0.02)
$
(0.02)
$
(0.04)
2-Rounds
What additional Issues?
Differences in Suppliers
Hong Kong
Higher Cost
Smaller Minimums
Faster