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Inventory Control with Limited Capacity and Advance Demand Information

Department of Management Science and Engineering, Stanford University, Stanford, California 94305
Morgan Stanley, 20 Cabot Square, Canary Warf, London, United Kingdom
oozer{at}stanford.edu
wei.wei{at}morganstanley.com

Manufacturers make production decisions and carry inventory to satisfy uncertain demand. When holding and shortage costs are high, carrying inventory could be even more expensive for a capacitated production system. Recent developments in information technology and sales strategies enabled firms to acquire, collect, or induce advance demand information. We address a periodic-review, stochastic, capacitated, finite and infinite horizon production system faced by a manufacturer who has the ability to obtain advance demand information. We establish optimal policies and characterize their behavior with respect to capacity, fixed costs, advance demand information, and the planning horizon. With a numerical study, we quantify the value of advance demand information and additional capacity for specific problem instances. We illustrate how advance demand information can be a substitute for capacity and inventory.

Subject classifications: inventory/production; stochastic, optimal policies, nonstationary; fixed cost; capacity; dynamic programming; Markov; forecasting; advance demand information.
History: Received November 2001; revision received October 2002; revision received May 2003; revision received October 2003; accepted October 2003.

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