The newsvendor model in SCM
Numerous supply chain management (SCM) approaches can be explained using the newsvendor model (NVM). This model – which originally comes from inventory management – evaluates both the costs of too much inventory and the costs of too little inventory and uses mathematical-statistical analysis to arrive at a – model-like – profit-maximizing inventory. This optimum stock level can be calculated or simulated for an entire supply network .
What are stocks in SCM?
In a supply and service network, the term“stocks” can (must) be defined much more broadly than just material stocks. Therefore, the concept of stock is given a human action stock, i.e. a comprehensive stock of human action options.
Prerequisites for the classic paperboy model
The classic NVM has some restrictive prerequisites, which are explained below:
- Uncertain demand situation (e.g. seasonal goods, innovative products and services)
- Single-period model (e.g. no subsequent deliveries possible during the sales period due to excessively long delivery times in relation to the sales period)
- Sales prices are below the cost price, whereby the discounted inventory costs are also included in the cost price.
Understocking and overstocking costs are not distributed symmetrically
Through numerous adaptations, the classic NVM can be gradually brought into line with the complex requirements of logistics reality and shake up a lot of data that companies believed to be certain. For example, the “optimal order quantities” believed to be certain are only correct if the understock and overstock costs are equally high and symmetrically distributed. However, this is only the case in extremely rare exceptions. As a result, these calculations by ERP systems – some of which are highly regarded – are simply wrong and mislead employees and managers. Of course, vigilant schedulers notice in practice that something cannot be right! But if even mild criticism of renowned ERP systems is considered blasphemous, then criticism from employees working at the grassroots level is soon silenced.
Over- and understocking costs in the supply chain
Finally, the big challenge for SC managers is to calculate the over- and understock costs for a mission-critical supply and service chain. The challenge for SCM here is to distribute the excess risk costs (under- and overstock costs of the entire success-critical supply chain) to the individual participants in such a way that the 3 basic requirements of any – successful – supply chain management are met. The supply chain must achieve added value in vertical cooperation, none of the participants in the supply chain must be worse off (Pareto efficiency) and, finally, the end customer must have a better price/performance ratio. The newsvendor model is an essential tool for meeting these high demands of the future.
Further information on supply chain management can be found under “Logisticians of the future” – Supply Chain Manager.
Image source: © Mike Licht, License:(CC BY 2.0)