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Capacity Planning for Short Life Cycle Products: The Newsvendor Model
Capacity Planning for Short Life Cycle Products: The Newsvendor Model
The newsvendor model is classically used for inventory (equivalently "capacity") management of short life cycle or perishable products such as fashion goods, electronics, and so on, but it can also be used to aid long-term strategic capacity investment. The key idea is to acquire capacity in the face of unknown demand by balancing the expected cost of ordering too little versus the cost of ordering too much. When demand increases, it is then satisfied contingent upon the acquired capacity. The newsvendor model is also one of the basic examples of stochastic programming with recourse and represents a real options type of approach. In the example shown, demand is modeled using the Gaussian distribution, although you can use the newsvendor model with any continuous or discrete distribution, and even if you know only the mean and standard deviation of an otherwise unknown distribution.