Production, Manufacturing and Logistics

Integrated vendorbuyer cooperative inventory models

with controllable lead time and ordering cost reduction
Hung-Chi Chang
a
, Liang-Yuh Ouyang
b,
*
, Kun-Shan Wu
c
, Chia-Huei Ho
d
a
Department of Logistics Engineering and Management, National Taichung Institute of Technology, Taichung, Taiwan
b
Department of Management Sciences and Decision Making, Tamkang University, Tamsui, Taipei, 25137 Taiwan
c
Department of Business Administration, Tamkang University, Tamsui, Taipei, Taiwan
d
Graduate Institute of Management Sciences, Tamkang University, Tamsui, Taipei, Taiwan
Received 28 May 2003; accepted 16 June 2004
Available online 11 September 2004
Abstract
This study deals with the lead time and ordering cost reduction problem in the single-vendor single-buyer integrated
inventory model. We consider that buyer lead time can be shortened at an extra crashing cost which depends on the lead
time length to be reduced and the ordering lot size. Additionally, buyer ordering cost can be reduced through further
investment. Two models are presented in this study. The rst model assumes that the ordering cost reduction has no
relation to lead time crashing. The second model assumes that the lead time and ordering cost reduction are interacted.
An iterative procedure is developed to nd the optimal solution and numerical examples are presented to illustrate the
results of the proposed models.
2004 Elsevier B.V. All rights reserved.
Keywords: Inventory; Integrated model; Lead time reduction; Ordering cost reduction
1. Introduction
Most inventory models considered to date assume just one facility (e.g., a buyer or a vendor) managing
its inventory policy to minimize its own cost or maximize its own prot. This one-sided-optimal-strategy
is not suitable for global markets. The issue of just-in-time (JIT) has recently received great attention. Most
JIT research has focused on the integration between vendor and buyer. Once a long-term relationship
0377-2217/$ - see front matter 2004 Elsevier B.V. All rights reserved.
doi:10.1016/j.ejor.2004.06.029
*
Corresponding author. Tel.: +886 2 86313221; fax: +886 2 86313214.
E-mail address: liangyuh@mail.tku.edu.tw (L.-Y. Ouyang).
European Journal of Operational Research 170 (2006) 481495
www.elsevier.com/locate/ejor
between both facilities has been developed, both parties can cooperate and share information to achieve
improved benets.
The joint optimization concept for buyer and vendor was initiated by Goyal (1976). Subsequently,
numerous scholars developed integrated inventory models under various assumptions. For example, Baner-
jee (1986) assumed that the vendor was manufacturing at a nite rate and considered a joint economic-lot-
size model in which a vendor produces to order for a buyer on a lot-for-lot basis. Goyal (1988) relaxed the
lot-for-lot policy and suggested that vendor economic production quantity should be an integer multiple of
buyer purchase quantity. Goyal (1995) later proposed a dierent shipment policy that suggested that the ith
shipment size equals (rst shipment size) (production rate/demand rate)
(i1)
. Hill (1997) further extended
this concept and proposed a general shipment policy which suggested that the ith shipment size equals (rst
shipment size) y
(i1)
, where 16y6 (production rate/demand rate). In the same year, Ha and Kim (1997)
developed an integrated JIT lot-splitting model for facilitating multiple shipments in small lots, that is, the
vendor produces the contract quantity in one setup and ships to the buyer in small quantities of equal size
in several lots. Later, Hill (1999) established a more general batching and shipping policy which suggested
that the successive shipment size of the rst m shipments increases by a xed factor, and the remaining ship-
ments would be equal sized. In a recent study, Pan and Yang (2002) developed an integrated inventory
model with controllable lead time. Most previous researches on the integrated vendorbuyer inventory
problem only considered the production shipment schedule in terms of the number and size of batches
transferred between both parties.
In modern production management, controllable lead time and ordering cost reduction are keys to
business success and have attracted considerable research attention. Ordering quantity, service level
and business competitiveness can be shown to possibly be inuenced directly or indirectly via
lead-time and/or ordering cost control. The previously mentioned integrated inventory models treat
the ordering cost and/or lead time as constants. However, in some practical situations, lead time
and ordering cost can be controlled and reduced in various ways. Ordering cost reduction can be
attained through worker training, procedural changes, and specialized equipment acquisition. In the
literature, Porteus (1985) rst introduced the concept and developed a framework for investing in
reducing EOQ model set-up cost. This development encouraged many researchers to examine set-
up/ordering cost reduction (e.g. Keller and Noori, 1988; Nasri et al., 1990; Kim et al., 1992; Pakne-
jad et al., 1995).
As stated in Tersine (1994), lead time usually comprises several components, such as setup time, pro-
cess time, wait time, move time and queue time. In many practical situations, lead time can be reduced
using an added crashing cost. In other words, lead time is controllable. The Japanese experience of using
JIT production showed that the benets associated with lead time control are clear. Therefore, reducing
lead time is both necessary and benecial. Inventory models incorporating lead time as a decision variable
were developed by several researchers. Liao and Shyu (1991) rst devised a probability inventory model in
which lead time was the unique decision variable. Later, several researchers (e.g., Ben-Daya and Raouf
(1994), Ouyang et al. (1996), Moon and Choi (1998), Hariga and Ben-Daya (1999)) developed various
analytical inventory models to explore the lead time reduction problem. The underlying assumption in
the above studies was that lead time could be decomposed into n mutually independent components, each
with a dierent but xed crash cost independent of the ordered lot size. However, this view may not be
realistic. In a real environment, to reduce lead time, managers may ask workers to work overtime, employ
part-time workers, use special delivery, and so on. Intuitively, extra cost should be paid for these services,
and these costs may depend on the ordered lot size. Generally, the larger the ordered lot size, the higher
the cost needed to reduce the lead time. Therefore, it seems reasonable to consider that lead time crash
cost depends not only on the amount of lead time to be shortened, but also on the ordered lot size. Pan
et al. (2002) extended this idea further by considering lead time crash cost as a function of both the order
quantity and reduced lead time.
482 H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495
Recently, Ouyang et al. (1999) investigated the inuence of ordering cost reduction on modied contin-
uous review inventory systems involving variable lead time with partial backorders. Subsequently, Ouyang
and Chang (2002) proposed a modied lot-size reorder-point inventory model with imperfect production
processes to study the eects of reducing lead time and set-up cost. The optimal policies derived in these
two articles are buyer focused, and the lead time and ordering/set-up cost reduction were assumed to
act independently. However, an independent relationship between lead time and ordering/set-up cost is just
one possibility. In some practices, lead time and ordering/set-up cost reduction might be closely related. A
lead time reduction could accompany a reduction in the ordering/set-up cost, and vice versa. For example,
electronic data interchange (EDI) technology could simultaneously reduce both the lead time and the order-
ing/set-up cost. To date, little research has been done on establishing the relationship between lead time and
ordering cost reduction. To provide insight and analytical tractability, as in Chiu (1998) and Chen et al.
(2001), this study employed a linear function to formulate the above relationship.
Expanding the focus beyond that solely of the buyer, this paper attempts to incorporate lead time and
ordering cost reduction into the integrated vendorbuyer inventory model. Two integrated cooperative
inventory models are proposed for the continuous review inventory system. The rst model considers
the case in which the lead time and ordering cost reduction are performed independently, while the second
model considers the lead time and ordering cost reduction to interact linearly. The objective is to minimize
the joint total expected cost by simultaneously optimizing the order quantity, reorder point, ordering cost,
lead time and number of shipments between the two facilities. For both models, an eective iterative
procedure is developed to determine the optimal policy, and numerical examples are used to illustrate
the results and benets of integration.
2. Notation and assumptions
To develop the proposed models, we adopt the following notation and assumptions which are similar to
those used in Pan et al. (2002).
Notations
D average demand per unit time of the buyer
P production rate of the vendor
A
0
buyers original ordering cost
h
b
buyers holding cost per unit per unit time
h
v
vendors holding cost per unit per unit time
p buyers xed penalty cost per unit short
p
0
buyers gross marginal prot per unit
S vendors set-up cost per set-up
A buyers ordering cost per order (decision variable)
L length of lead time (decision variable)
Q buyers order quantity (decision variable)
r buyers reorder point (decision variable)
I(A) buyers capital investment required to achieve ordering cost A, 0 < A 6 A
0
h fractional opportunity cost of capital investment per unit time
d percentage decrease in ordering cost A per dollar increase in investment I(A)
m the number of lots in which the product is delivered from the vendor to the buyer in one produc-
tion cycle, a positive integer (decision variable)
X the lead time demand which follows a normal distribution with nite mean DL and standard devi-
ation r

L
p
, where r denotes the standard deviation of the demand per unit time
H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495 483
Assumptions
1. There is single-vendor and single-buyer for a single product in this article.
2. The buyer orders a lot of size Q and the vendor manufactures mQ with a nite production rate P(P > D)
at one set-up but ship in quantity Q to the buyer over m times. The vendor incurs a set-up cost S for each
production run and the buyer incurs an ordering cost A for each order of quantity Q.
3. Inventory is continuously reviewed. The buyer places the order when the on hand inventory reaches the
reorder point r.
4. The reorder point r = the expected demand during lead time + safety stock (SS), and SS = k (stand-
ard deviation of lead time demand), that is, r DL kr

L
p
where k is a safety factor.
5. Shortages are allowed and partially backordered. b denotes the fraction of the demand during the
stock-out period that will be backordered.
6. The lead time L consists of n mutually independent components. The ith component has a normal dura-
tion T
i
and minimum duration t
i
, i = 1, 2, . . . , n.
7. For the ith component of lead time, the crashing cost per unit time, c
i
, depends on the ordering lot size
Q and is described by c
i
= a
i
+ b
i
Q, where a
i
> 0 is the xed cost, and b
i
> 0 is the unit variable cost, for
i = 1, 2, . . . , n.
8. For any two crash cost lines c
i
= a
i
+ b
i
Q and c
j
= a
j
+ b
j
Q, where a
i
> a
j
, b
i
<b
j
, for i 5j and
i, j = 1, 2, . . . , n, there is an intersection point Q
S
such that c
i
= c
j
. These intersection points are arranged
in ascending order so that Q
S
0
< Q
S
1
< < Q
S
w
< Q
S
w1
, where Q
S
0
0, Q
S
w1
1 and w6n(n1)/2. For
any order quantity range Q
S
i
; Q
S
i1
, c
i
s are arranged such that c
1
6c
2
6 6c
n
, and the lead time com-
ponents are crashed one at a time starting with the component of least c
i
, and so on (see Pan et al.,
2002).
9. Let L
0


n
j1
T
j
and L
i
be the length of lead time with components 1, 2, . . . , i crashed to their minimum
duration, then L
i
can be expressed as L
i
L
0

i
j1
T
j
t
j
, i = 1, 2, . . . , n and the lead time crashing
cost per cycle C(L) is given by
CL c
i
L
i1
L

i1
j1
c
j
T
j
t
j
, where L 2 [L
i
, L
i1
], and c
j
= a
j
+ b
j
Q for j = 1, 2, . . . , i.
10. We assume that the capital investment, I(A), in reducing buyers ordering cost is a logarithmic function
of the ordering cost A. That is,
IA
1
d
ln
A
0
A
_ _
for 0 < A 6 A
0
:
This function is consistent with the Japanese experience as reported in Hall (1983), and has been utilized
in many researches (e.g., Porteus (1985), Nasri et al. (1990), Kim et al. (1992), Paknejad et al. (1995),
Ouyang and Chang (2002)).
11. The extra costs incurred by the vendor will be fully transferred to the buyer if shortened lead time is
requested.
12. The transportation cost per unit from the vendor to the buyer is constant and independent of the order-
ing quantity. Hence, for the simplication, the total transportation cost per unit time in the model is
ignored.
3. Basic model
For the model that does not consider ordering cost and reorder point as decision variables, the
buyer model closely follows Pan et al. (2002), who established the total expected cost per unit time as
follows:
484 H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495
TC
b
Q; L ordering cost inventory holding cost stock-out cost lead time crashing cost

AD
Q
h
b
Q
2
r DL 1 br

L
p
Wk
_ _

D
Q
p p
0
1 br

L
p
Wk
D
Q
CL; 1
where W(k) = /(k) k[1 U(k)], / and U are the standard normal probability density function (p.d.f.) and
cumulative distribution function (c.d.f.), respectively. Note that it can be shown that W(k) is a decreasing
function of k, and lim
k !1
W(k) = 0.
In contrast to Pan et al. (2002), this study considers that the ordering cost A could vary through capital
investment, and adds the reorder point into the buyer decision variable to further improve buyer total cost.
Hence, the buyers objective is to minimize the new total expected cost per unit time, namely, the sum of the
capital investment cost for reducing A and the inventory relevant cost as expressed in (1), by optimizing
over Q, A, r, and L constrained on 0 < A6A
0
. Given r DL kr

L
p
, the safety factor k can be considered
as a decision variable instead of r. Thus, the total expected cost per unit time for the buyer becomes
TEC
b
Q; A; k; L hIA TC
b
Q; L

h
d
ln
A
0
A
_ _

AD
Q
h
b
Q
2
kr

L
p
1 br

L
p
Wk
_ _

D
Q
p p
0
1 br

L
p
Wk
D
Q
CL; 2
constrained on 0 < A6A
0
.
On the other hand, for the vendor, since S is the vendor set-up cost per set-up and the production quan-
tity for a vendor in a lot is mQ, the expected set-up cost per unit time is given by SD/(mQ). During the
production period, once the rst Q units are produced, the vendor delivers them to the buyer, and then con-
tinues making the delivery on average every Q/D units of time until the inventory level falls to zero (see Fig.
1). Hence, the average inventory per unit time for the vendor can be calculated as follows:
mQ
Q
P
m 1
Q
D
_ _

m
2
Q
2
2P
_ _

Q
2
D
1 2 m 1
_ _ _ _
mQ
D
_

Q
2
m 1
D
P
_ _
1
2D
P
_ _
:
quantity
time
cumulated
inventory level
P Q D Q
P mQ
D mQ
Fig. 1. Inventory level of vendor.
H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495 485
Therefore, the total expected cost per unit time for the vendor is:
TEC
v
Q; m
SD
mQ
h
v
Q
2
m1
D
P
1
2D
P
_ _
: 3
Accordingly, the joint total expected cost per unit time for the vendor and buyer requiring minimization is
given by
JTECQ; A; k; L; m TEC
b
Q; A; k; L TEC
v
Q; m

h
d
ln
A
0
A
_ _

AD
Q
h
b
Q
2
kr

L
p
1 br

L
p
Wk
_ _

D
Q
_
p p
0
1 b

L
p
Wk
SD
mQ
h
v
Q
2
m 1
D
P
_ _
1
2D
P
_ _

D
Q
a
i
b
i
QL
i1
L

i1
j1
a
j
b
j
QT
j
t
j

_ _
; L 2 L
i
; L
i1
: 4
To simplify notation, we let
p p p
0
1 b;
UL a
i
L
i1
L

i1
j1
a
j
T
j
t
j
;
and
Hm h
b
h
v
m 1
D
P
_ _
1
2D
P
_ _
:
Now, the problem can be formulated by
Min JTECQ; A; k; L; m
h
d
ln
A
0
A
_ _
D b
i
L
i1
L

i1
j1
b
j
T
j
t
j

_ _

D
Q
A
S
m
pr

L
p
Wk UL
_ _
h
b
r

L
p
k 1 bWk

Q
2
Hm
subject to 0 < A 6 A
0
: 5
To solve the above nonlinear programming problem, this study temporarily ignores the constraint
0 < A6A
0
and relaxes the integer requirement on m (the number of shipments from the vendor to the buyer
during one production cycle). For xed Q, A, k, and L 2 [L
i
, L
i1
], JTEC(Q, A, k, L, m) can be proved to be
a convex function of m. Consequently, the search for the optimal shipment number, m

, is reduced to nd a
local minimum.
Property 1. For xed Q, A, k, and L, JTEC(Q, A, k, L, m) is convex in m.
Proof. Taking the rst and second partial derivatives of JTEC(Q, A, k, L, m) with respect to m, we have
oJTECQ; A; k; L; m
om

SD
m
2
Q
h
v
Q
2
1
D
P
_ _
; 6
486 H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495
and
o
2
JTECQ; A; k; L; m
om
2

2SD
m
3
Q
> 0: 7
Therefore, JTEC(Q, A, k, L, m) is convex in m, for xed Q, A, k, and L. This completes the proof of Property
1. h
Next, the rst partial derivatives of JTEC(Q, A, k, L, m) with respect to Q, A, k and L 2 (L
i
, L
i1
) are
taken for xed m, respectively. This process yields:
oJTECQ; A; k; L; m
oQ

D
Q
2
A
S
m
pr

L
p
Wk UL
_ _

Hm
2
; 8
oJTECQ; A; k; L; m
oA

h
dA

D
Q
; 9
oJTECQ; A; k; L; m
ok

D
Q
pr

L
p
Uk 1 h
b
r

L
p
1 1 bUk 1 f g; 10
and
oJTECQ; A; k; L; m
oL

D
2Q
prWkL
1=2

h
b
r
2
k 1 bWk L
1=2
D
a
i
Q
b
i
_ _
: 11
Furthermore, for xed (Q, A, k, m), JTEC(Q, A, k, L, m) is noted to be a concave function in L 2 [L
i
, L
i1
],
because
o
2
JTECQ; A; k; L; m
oL
2

D
4Q
prWkL
3=2

h
b
r
4
k 1 bWkL
3=2
< 0: 12
Hence, for xed (Q, A, k, m), the minimum joint total expected cost per unit time occurs at the end points of
the interval [L
i
, L
i1
]. Conversely, for xed m and L 2 [L
i
, L
i1
], JTEC(Q, A, k, L, m) can be proved to be a
convex function of (Q, A, k). Thus, the minimum value of JTEC(Q, A, k, L, m) occurs at the point (Q

, A

, k

)
which satises oJTEC(Q, A, k, L, m)/oQ = 0, oJTEC(Q, A, k, L, m)/oA = 0 and oJTEC(Q, A, k, L, m)/ok = 0,
simultaneously. Solving these three equations, yields
Q

2D
Hm
A

S
m
pr

L
p
Wk

UL
_ _

; 13
A

hQ

dD
; 14
and
Uk

1
h
b
Q

pD h
b
Q

1 b
: 15
Clearly, if none of the lead time components crashes, the lead time length is

n
j1
T
j
, and the correspond-
ing crash cost is zero. Meanwhile, if all of the lead time components crash to their minimum durations, the
lead time length becomes

n
j1
t
j
, and the corresponding xed crash cost is

n
j1
a
j
T
j
t
j
. Moreover, the
H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495 487
ordering cost A depends on total capital invested in the ordering cost reduction and the range of A is
0 < A6A
0
. Based on these scenarios, we let
Q
min

2D
Hm
S
m
prWk

n
j1
t
j

_
_
_
_
_

_ ; 16
and
Q
max

2D
Hm
A
0

S
m
prWk

n
j1
T
j

n
j1
a
j
T
j
t
j

_
_
_
_

_ : 17
Eqs. (13), (16) and (17) yield Q
min
< Q

6 Q
max
. If Q
min
2 Q
S
i1
; Q
S
i
and Q
max
2 Q
S
j1
; Q
S
j
, where i 6 j, then
order quantity Q

is located in Q
S
i1
; Q
S
j
.
To simplify the search process and optimize the number of shipments m

, an intuitively starting value for

m

is provided using the following Property.

Property 2. The optimal number of shipment m

must satisfy
m

1 6
S h
b
h
v
h
v
2D
P
_ _
h
v
A

pr

L
p
Wk

UL 1
D
P
_ _ 6 m

1: 18
Proof. See Appendix A.
The optimal solutions for Q, A, and k for given L and m can be obtained by solving Eqs. (13)(15)
iteratively until convergence. Procedure convergence then can be proved by adopting a similar graphical
technique used in Hadley and Whitin (1963). An algorithmic procedure was developed as follows to identify
the optimal solution for (Q, A, k, L, m) (this study adopted Pan et al.s, 2002 algorithm to determine Q
min
,
Q
max
, e, and f in Step 2Step 4, and part of Step 5 was adopted from Ouyang et al., 1999). h
Algorithm
Step 0. Compute ^ m (i.e., the lower bound of m

) by substituting A

= A
0
, L

n
i1
T
i
, UL

n
i1
a
i
T
i
t
i
, and W(k

) = W(0) = 0.3989 into (18).

Step 1. Set m ^ m.
Step 2. Compute the intersection points Q
S
of the crash cost lines c
i
= a
i
+ b
i
Q and c
j
= a
j
+ b
j
Q, for all i
and j, where a
i
> a
j
, b
i
< b
j
, i 5j and i, j = 1, 2, . . . n. Arrange these intersection points such that
Q
S
1
< Q
S
2
< < Q
S
w
and let Q
S
0
0, Q
S
w1
1.
Step 3. Computing Q
min
and Q
max
using Eqs. (16) and (17).
Step 4. Use Q
min
and Q
max
to determine the values of e and f such that Q
S
e1
6 Q
min
6 Q
S
e
, and
Q
S
f 1
6 Q
max
6 Q
S
f
.
Step 5. For each order quantity range Q
S
j1
; Q
S
j
, j = e,e + 1, . . . , f, rearrange c
i
such that c
1
6c
2
6 6c
n
, do
(5-1) For each L
i
, i = 0, 1, . . . , n, perform (5-2) to (5-4).
(5-2) Start with k
i1
= 0 (implies U(k
i1
) = 0.5).
(i) Using U(k
i1
) and Eq. (15) to evaluate Q
i1
.
(ii) Using Q
i1
to determine A
i1
from Eq. (14).
(iii) Using Q
i1
and A
i1
to determine W(k
i2
) from Eq. (13), then nds k
i2
, and hence U(k
i2
).
(iv) Repeat (i)(iii) until no change occurs in the values of Q
i
, A
i
and k
i
.
488 H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495
(5-3) Check whether A
i
< A
0
and Q
i
2 Q
S
j1
; Q
S
j
.
(i) If A
i
< A
0
and Q
i
2 Q
S
j1
; Q
S
j
, then the solution found in (5-2) is optimal for given L
i
.
Go to (5-4).
(ii) If A
i
PA
0
, then set A
i
= A
0
, and the corresponding (Q
i
, k
i
) can be obtained by solving
(13) and (15) iteratively until convergence (the solution procedure is similar to the pre-
vious steps).
(iii) If Q
i
6 Q
S
j1
, let Q
i
Q
S
j1
; if Q
S
j
6 Q
i
, let Q
i
Q
S
j
. Using Q
i
to compute the correspond-
ing A
i
and k
i
in Eqs. (14) and (15). If A
i
PA
0
, then set A
i
= A
0
. Go to (5-4).
(5-4) Compute the corresponding JTEC(Q
i
, A
i
, k
i
, L
i
, m).
(5-5) Find min
i=0,1,. . . , n
JTEC(Q
i
, A
i
, k
i
, L
i
, m). Set JTECQ

j
; A

j
; k

j
; L

j
; m min
i0; 1;...;n
JTECQ
i
; A
i
; k
i
; L
i
; m, then Q

j
; A

j
; k

j
; L

j
; m is the optimal solution for the order quan-
tity range Q
S
j1
; Q
S
j
_ _
.
Step 6. Find min
je;e1;;f
JTECQ

j
; A

j
; k

j
; L

j
; m.
Set JTECQ

m
; A

m
; k

m
; L

m
; m min
je;e1;;f
JTECQ

j
; A

j
; k

j
; L

j
; m, then Q

m
; A

m
; k

m
; L

m
is
the optimal solution for xed m.
Step 7. Set m = m + 1, repeat Steps 26 to get JTECQ

m
; A

m
; k

m
; L

m
; m.
Step 8. If JTECQ

m
; A

m
; k

m
; L

m
; m 6 JTECQ

m1
; k

m1
; A

m1
; L

m1
; m 1, then go to Step 7, otherwise go
to Step 9.
Step 9. Set Q

; A

; k

; L

; m

m1
; A

m1
; k

m1
; L

m1
; m 1, then (Q

, A

, k

, L

, m

) is the optimal solu-

tion and JTEC(Q

, A

, k

, L

, m

) is the minimum joint total expected cost.

Once the optimal solution (Q

, A

, k

, L

, m

) is obtained, the optimal reorder point r

DL

p
follows.
4. Linear function case
This section considers that the lead time and ordering cost reduction act dependently. In actual situa-
tions, the relationship between the lead time and ordering cost reduction could vary case by case, and this
study adopts a linear relationship to provide insight and analytical tractability. The following simple linear
relationship used in Chiu (1998) and Chen et al. (2001) is employed to address this issue:
L
0
L
L
0
a
A
0
A
A
0
_ _
; 19
where a(>0) is a constant scaling parameter to describe the linear relationship between percentage reduc-
tions in lead time and ordering cost. By considering this relationship (19), the ordering cost A can be ex-
pressed as a linear function of L, that is,
AL u vL; 20
where u 1
1
a
_ _
A
0
and v
A
0
aL
0
.
Now, assuming that the ordering cost is reduced due to the lead time reduction rather than investment,
using (20) in (5), the problem then becomes minimizing the following joint total expected cost:
JTEC
H
Q; k; L; m D b
i
L
i1
L

i1
j1
b
j
T
j
t
j

_ _

D
Q
u vL
S
m
pr

L
p
Wk UL
_ _
h
b
r

L
p
k 1 bWk
Q
2
Hm; 21
where the subscript H denotes the linear relationship between ordering cost and lead time.
H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495 489
To solve this problem, for xed m, the rst partial derivatives of (21) with respect to Q, k and
L 2 (L
i
, L
i1
), respectively, are taken. This process obtains:
oJTEC
H
Q; k; L; m
oQ

D
Q
2
u vL
S
m
pr

L
p
Wk UL
_ _

Hm
2
; 22
oJTEC
H
Q; k; L; m
ok

D
Q
pr

L
p
Uk 1 h
b
r

L
p
f1 1 bUk 1g; 23
and
oJTEC
H
Q; k; L; m
oL

Dv
Q

D
2Q
prWkL
1=2

h
b
r
2
k 1 bWkL
1=2
D
a
i
Q
b
i
_ _
: 24
Furthermore, for xed (Q, k, m), JTEC
H
(Q, k, L, m) can be shown to be a concave function in L 2 [L
i
, L
i1
].
Therefore, for xed (Q, k, m), the minimum total expected cost per unit time will occur at the end points of
the interval [L
i
, L
i1
]. Additionally, for xed m and L 2 [L
i
, L
i1
], JTEC
H
(Q, k, L, m) can be shown to be
convex in (Q, k). Thus, for a given value of L 2 [L
i
, L
i1
] and xed m, by setting Eqs. (22) and (23) equal
to zero, the optimal values for Q and k (denoted by Q

and k

) can be obtained using the following

equations:
Q

2D
Hm
u vL
S
m
pr

L
p
Wk

UL
_ _

; 25
and
Uk

1
h
b
Q

pD h
b
Q

1 b
: 26
Moreover, using the same approach as in the previous section, Q
min
and Q
max
can be obtained as follows:
Q
min

2D
Hm
u v

n
j1
t
j

S
m
prWk

n
j1
t
j

_
_
_
_
_

_ ; 27
and
Q
max

2D
Hm
u v

n
j1
T
j

S
m
prWk

n
j1
T
j

n
j1
a
j
T
j
t
j

_
_
_
_

_ : 28
A similar algorithm procedure as proposed in Section 3 then can be performed to obtain the optimal solu-
tion for (Q, k, L, m).
5. Numerical examples
Example 1. In order to illustrate the above solution procedure, let us consider an inventory system with the
data used in Pan et al. (2002): D = 600units/year, A
0
= $200/order, h
b
= $ 20/unit/year, p = $50/unit,
p
0
= $150/unit, r = 7units/week, and the lead time has three components with data shown in Table 1.
490 H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495
Besides, for integrated vendorbuyer cooperative inventory system, we take P = 2000 units/year,
S = $1000/set-up, h
v
= $15/unit/year, 1/d = 2800, and h = 0.2/dollar/year.
The above data are rst used to evaluate the intersection points, order quantity range interval and com-
ponent crash priorities in each interval. The analytical results are listed in Table 2, and Fig. 2 shows the
crash sequence corresponding to each order quantity range.
Then, for dierent b = 0, 0.5, 0.8 and 1, the previously developed algorithm is applied to obtain the re-
sults of the solution procedure as shown in Table 3, and a summary is listed in Table 4.
To see the ordering cost reduction eect, we list the xed ordering cost model results (i.e., A = 200) in
Table 4. Notably, the service level can be measured using 1 P(X > r), where P(X > r) denotes the prob-
ability of shortage during a cycle. In this sense, the higher reorder point r will result in lower P(X > r), and
thus higher service level. Comparing the results shown in Table 4 reveals that, for any given backorder rate
b, the ordering cost reduction model has higher reorder point and lower joint total expected cost, meaning
that higher service level along with joint total expected cost savings are achieved by ordering cost reduction.
Example 2. The case involving a linear relationship between the lead time and ordering cost is also
considered. The data is the same as that in Example 1, and a = 0.75, 1.00, 1.25, 2.50 and 5.00. Applying a
similar algorithmic procedure as that proposed in Section 3 produces the results listed in Table 5. To clarify
Table 1
Lead time data
Lead time component i 1 2 3
Normal duration T
i
(days) 20 20 16
Minimum duration t
i
(days) 6 6 9
Unit xed crash cost a
i
($/day) 0.5 1.3 5.1
Unit variable crash cost b
i
($/unit/day) 0.012 0.004 0.0012
0.00
5.00
10.00
15.00
20.00
25.00
0 250 500 750 1000 1250 1500 1750 2000
Q
c
r
a
s
h

c
o
s
t

p
e
r

u
n
i
t

t
i
m
e
c
1
c
3
c
2
Fig. 2. Crash cost per unit time vs. order quantity.
Table 2
The values of Q
S
, order quantity ranges and crash sequence
Intersection points (Q
S
) Order quantity range Crash sequence of components
100 (0, 100] 1, 2, 3
426 (100, 426] 2, 1, 3
1357 (426, 1357] 2, 3, 1
(1357, 1) 3, 2, 1
H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495 491
the ordering cost reduction effect, the xed ordering cost model (i.e., a = 1) results are listed at the bottom
of Table 5.
Table 5 reveals that, for any given b, the order quantity, ordering cost, joint total expected cost increase
and the number of shipments decrease as the a value increases. Furthermore, for any given a, the joint total
expected cost decreases with increasing value of b. Additionally, it is observed that for any given b, the xed
ordering cost model (a = 1) has a larger joint total expected cost compared with the ordering cost reduc-
tion model. This result shows the inuence of ordering cost reduction.
6. Conclusions
This study investigated how lead time and ordering cost reduction aect the integrated inventory model.
Lead time crash cost was assumed to depend on ordered lot size and the amount of lead time to be short-
ened. Moreover, ordering cost was included among the decision variables. Two models were proposed in
this study. The rst model employed a logarithmic investment cost function for ordering cost reduction,
in which the ordering cost and lead time reductions were performed independently. The second model as-
Table 3
The results of solution procedure
m Q
min
Q
max
e, f Q

m
A

m
r

m
L
i
JTEC()
b = 0 1 221 373 2,2 249 200 71 4 $6740.58
^ m 1 2 131 283 2,2 154 144 74 4 $6275.10
3 94 239 1,2 113 105 75 4 $6213.13
4 73 212 1,2 87 81 136 8 $6231.39
b = 0.5 1 221 332 2,2 250 200 67 4 $6684.48
^ m 1 2 131 245 2,2 155 144 71 4 $6223.12
3 94 204 1,2 111 103 130 8 $6157.80
4 73 179 1,2 87 81 132 8 $6163.48
b = 0.8 1 221 304 2,2 251 200 91 6 $6618.29
^ m 1 2 131 219 2,2 153 143 123 8 $6164.88
3 94 180 1,2 111 104 126 8 $6086.53
4 73 156 1,2 87 81 128 8 $6094.76
b = 1.0 2 131 199 2,2 154 144 117 8 $6078.04
^ m 2 3 94 162 1,2 111 104 121 8 $6005.14
4 73 139 1,2 87 82 123 8 $6016.82
Table 4
The optimal solutions
b Ordering cost reduction model Fixed ordering cost model (A = 200)
Q

JTEC() Q

A
r

A
L

A
m

A
JTEC
A
()
0 113 $105 75 4 3 $6213.13 161 73 4 2 $6304.38
0.5 111 $103 130 8 3 $6157.80 161 70 4 2 $6252.10
0.8 111 $104 126 8 3 $6086.53 161 95 6 2 $6193.38
1.0 111 $104 121 8 3 $6005.14 160 117 8 2 $6107.74
Notes: (1) The unit of L

and L

A
are weeks.
(2) Subscript A denotes the case of xed ordering cost.
492 H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495
sumed that the ordering cost and lead time reductions interacted with each other linearly. An iterative algo-
rithm was devised to determine the optimal solution for lot size, reorder point, ordering cost, lead time, and
number of shipments between the vendor and buyer.
The numerical example results succinctly explained the importance of lead time and ordering cost reduc-
tion. The rst model showed that both higher service level and lower joint total expected cost could be ob-
tained by ordering cost reduction. Meanwhile, the second model showed that for any given backorder ratio,
b, the order quantity, ordering cost and joint total expected cost increase and the number of shipments de-
crease with increasing scaling parameter, a. For any given scaling parameter, a, the joint total expected cost
decreases with increasing backorder ratio, b.
Finally, this study does not address quality-related issues. A possible extension of this work may con-
sider the imperfect quality items. On the other hand, this study assumes lead times to be deterministic. This
limitation can be overcome by considering procurement lead time as a random variable and discussing the
eects in reducing lead-time variability. Furthermore, this study assumed that the relationship between lead
time and ordering cost reduction is linear, while other functional forms may exist in practical situations.
Acknowledgement
The authors would like to thank the anonymous referees for their very valuable and helpful suggestions
on an earlier version of the paper.
Table 5
The optimal solutions of Example 2
a b Q

JTEC
H
()
0.75 0 87 $33 61 3 4 $5565.76
0.5 87 $33 59 3 4 $5524.13
0.8 88 $33 56 3 4 $5482.01
1.0 109 $33 52 3 3 $5433.83
1.00 0 113 $75 60 3 3 $5795.71
0.5 113 $75 57 3 3 $5752.64
0.8 113 $75 55 3 3 $5708.84
1.0 114 $75 60 3 3 $5658.80
1.25 0 116 $100 60 3 3 $5926.57
0.5 115 $120 72 4 3 $5881.66
0.8 115 $120 70 4 3 $5830.97
1.0 115 $120 66 4 3 $5773.05
2.50 0 119 $160 75 4 3 $6136.83
0.5 119 $160 72 4 3 $6086.75
0.8 120 $160 69 4 3 $6035.75
1.0 120 $160 66 4 3 $5977.39
5.00 0 158 $180 73 4 2 $6229.18
0.5 159 $180 70 4 2 $6177.01
0.8 159 $180 67 4 2 $6123.50
1.0 159 $180 64 4 2 $6061.64
1 0 161 $200 73 4 2 $6304.38
0.5 161 $200 70 4 2 $6252.10
0.8 161 $200 95 6 2 $6193.38
1.0 160 $200 117 8 2 $6107.74
Note: The unit of L

is weeks.
H.-C. Chang et al. / European Journal of Operational Research 170 (2006) 481495 493
Appendix A
Proof of Property 2. For a particular value of L, substituting Eqs. (13)(15) into JTEC(Q, A, k, L, m) and
then ignore the terms that are independent of m. This process yields:
JTEC
1
m JTECQ

; A

; k

; L; m

2DHm A

S
m
pr

L
p
Wk

UL
_ _

:
Taking square of JTEC
1
(m), yields
JTEC
2
m JTEC
1
m
2
2DHm A

S
m
pr

L
p
Wk

UL
_ _
: A:1
Since m is a positive integer, the optimal value m

is obtained when
JTEC
2
m

6 JTEC
2
m

1 and JTEC
2
m

6 JTEC
2
m

1: A:2
From (A.1) and (A.2), m

is noted to satisfy the following condition:

m

1 6
S h
b
h
v
h
v
2D
P
_ _
h
v
A

pr

L
p
Wk

UL
_
1
D
P
_ _ 6 m

1: A:3
This completes the proof. h
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