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Delayed production and raw materials inventory under uncertainty

Jeffrey Nilsen ()

International Journal of Production Economics, 2013, vol. 146, issue 1, 337-345

Abstract: Firms producing seasonal goods often make order and production choices prior to highly uncertain sales, thus lending an investment quality to their decisions. Using specialized inputs imposes a delay in receiving them and linked with a long production period the firm makes its order, production and pricing choices under successively reduced uncertainty. The model shows that input and production costs have distinctive effects on the firm's order size with implications for the stock of raw materials inventory. Firms facing relatively low input costs are willing to risk leaving inputs unused as a bet for a good state of nature. Further, we investigate situations of greater uncertainty and find a more nuanced explanation of firm behavior than previous research. Firms with relatively inexpensive inputs facing equal odds of good and bad states of nature will increase their order size (a known result). However, a firm with a low relative cost of completing production may either raise or reduce its order size depending on the demand elasticity and the relative demand uncertainty. Intuitively, firms with expensive inputs facing highly uncertain demand and with many substitute output goods are inhibited by the high cost of insuring against stock-outs.

Keywords: Raw materials inventories; Sunk costs; Safety stock; Uncertainty; Mean preserving spread; Newsvendor model (search for similar items in EconPapers)
Date: 2013
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DOI: 10.1016/j.ijpe.2013.07.022

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Handle: RePEc:eee:proeco:v:146:y:2013:i:1:p:337-345