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Adapting inventory models for handling various payment structures using net present value equivalence analysis

Adapting inventory models for handling various payment structures using net present value equivalence analysis
Adapting inventory models for handling various payment structures using net present value equivalence analysis
Classic inventory models use average cost functions. It is generally accepted that these models should account for the time value of money. They do so not by considering the timing of cash-flows, but by including opportunity costs. The Net Present Value (NPV) framework has long been used to compare these models with. We formalise NPV Equivalence Analysis (NPVEA) under various payment structures, and apply it to a few classic inventory models. While taking the linear approximation is typically part of the process to find equivalence, the essence is to disregard the parameters of a classic inventory model but instead start from cash-flow structures between firms. It is demonstrated how this leads to different plausible interpretations of, or variations to, classic inventory models, in particular for payment structures that differ from conventional assumptions. We identify situations with negative holding costs, which indicates that more features from the real world must be added into the decision model. We illustrate that in addition to capital costs, firms can enjoy capital rewards. These rewards may not always affect the firm's inventory decisions, but are in general useful for finding the impact of changes to various parameters on the firm's future profits
deterministic inventory theory, net present value, payment structure, economic order quantity, economic production quantity, philosophy of modelling
0925-5273
190-200
Beullens, Patrick
893ad2e2-0617-47d6-910b-3d5f81964a9c
Janssens, Gerrit K.
857c7829-2b42-457a-81f0-7bf8d72f5507
Beullens, Patrick
893ad2e2-0617-47d6-910b-3d5f81964a9c
Janssens, Gerrit K.
857c7829-2b42-457a-81f0-7bf8d72f5507

Beullens, Patrick and Janssens, Gerrit K. (2014) Adapting inventory models for handling various payment structures using net present value equivalence analysis. International Journal of Production Economics, 157, 190-200. (doi:10.1016/j.ijpe.2013.09.013).

Record type: Article

Abstract

Classic inventory models use average cost functions. It is generally accepted that these models should account for the time value of money. They do so not by considering the timing of cash-flows, but by including opportunity costs. The Net Present Value (NPV) framework has long been used to compare these models with. We formalise NPV Equivalence Analysis (NPVEA) under various payment structures, and apply it to a few classic inventory models. While taking the linear approximation is typically part of the process to find equivalence, the essence is to disregard the parameters of a classic inventory model but instead start from cash-flow structures between firms. It is demonstrated how this leads to different plausible interpretations of, or variations to, classic inventory models, in particular for payment structures that differ from conventional assumptions. We identify situations with negative holding costs, which indicates that more features from the real world must be added into the decision model. We illustrate that in addition to capital costs, firms can enjoy capital rewards. These rewards may not always affect the firm's inventory decisions, but are in general useful for finding the impact of changes to various parameters on the firm's future profits

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Published date: 3 November 2014
Keywords: deterministic inventory theory, net present value, payment structure, economic order quantity, economic production quantity, philosophy of modelling
Organisations: Operational Research

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Local EPrints ID: 358027
URI: http://eprints.soton.ac.uk/id/eprint/358027
ISSN: 0925-5273
PURE UUID: 263c1ad5-2fa0-4463-879d-42fd559d752e
ORCID for Patrick Beullens: ORCID iD orcid.org/0000-0001-6156-3550

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Date deposited: 27 Sep 2013 15:16
Last modified: 15 Mar 2024 03:32

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Author: Gerrit K. Janssens

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