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A general method for addressing forecasting uncertainty in inventory models

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  • Prak, Dennis
  • Teunter, Ruud

Abstract

In practice, inventory decisions depend heavily on demand forecasts, but the literature typically assumes that demand distributions are known. This means that estimates are substituted directly for the unknown parameters, leading to insufficient safety stocks, stock-outs, low service, and high costs. We propose a framework for addressing this estimation uncertainty that is applicable to any inventory model, demand distribution, and parameter estimator. The estimation errors are modeled and a predictive lead time demand distribution obtained, which is then substituted into the inventory model. We illustrate this framework for several different demand models. When the estimates are based on ten observations, the relative savings are typically between 10% and 30% for mean-stationary demand. However, the savings are larger when the estimates are based on fewer observations, when backorders are costlier, or when the lead time is longer. In the presence of a trend, the savings are between 50% and 80% for several scenarios.

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  • Prak, Dennis & Teunter, Ruud, 2019. "A general method for addressing forecasting uncertainty in inventory models," International Journal of Forecasting, Elsevier, vol. 35(1), pages 224-238.
    • Handle: RePEc:eee:intfor:v:35:y:2019:i:1:p:224-238
    DOI: 10.1016/j.ijforecast.2017.11.004
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    References listed on IDEAS

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    5. Saoud, Patrick & Kourentzes, Nikolaos & Boylan, John E., 2022. "Approximations for the Lead Time Variance: a Forecasting and Inventory Evaluation," Omega, Elsevier, vol. 110(C).
    6. Makridakis, Spyros & Spiliotis, Evangelos & Assimakopoulos, Vassilios, 2020. "The M4 Competition: 100,000 time series and 61 forecasting methods," International Journal of Forecasting, Elsevier, vol. 36(1), pages 54-74.
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    8. Khurram Rehmani & Afshan Naseem & Yasir Ahmad & Muhammad Zeeshan Mirza & Tasweer Hussain Syed, 2021. "Development of a hybrid framework for inventory leanness in Technical Services Organizations," PLOS ONE, Public Library of Science, vol. 16(2), pages 1-13, February.

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