The Effects of Financial Risks on Inventory Policy

Research output: Contribution to journalArticle

Abstract

The effect of financial risks on (R, Q) inventory policies is analyzed in a real options framework. Simple adjustments of the usual formulas for R and Q are suggested and tested. Stochastic demand and purchase costs are considered, both with known systematic (business-cycle-related) risk. The systematic risk of stochastic demand has typically a negligible effect on the optimal values of R and Q, although an improvement may be achieved by a simple adjustment of R. The systematic risk of the purchase price, c, has a significant effect on R and Q. The capital holding cost should be estimated as r . c, where r is the sum of the risk-free interest rate, the expected price decrease, and the risk premium associated with the systematic risk of c. For goods quoted on commodity exchanges, r may be estimated directly from the prices on forward contracts. Its size (and sign) varies considerably for different commodities.

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Research areas and keywords

Subject classification (UKÄ) – MANDATORY

  • Transport Systems and Logistics

Keywords

  • Inventory costing methods, Capital costs, Risk, Inventory control, Studies, Real options analysis, Stochastic models
Original languageEnglish
Pages (from-to)1804-1815
JournalManagement Science
Volume51
Issue number12
Publication statusPublished - 2005
Publication categoryResearch
Peer-reviewedYes