Simulation based optimization to determine inventory management policy

Abstract

This research focused on establishing and implementing an optimal inventory management policy that would minimize the total inventory cost of some dairy producers and distribution companies, located in the upper-northern part of Thailand. Inventory management policy is the decisive factor in determining both when the order should be made as well as the order quantity. This paper particularly focused on the inventory of raw materials, namely 9 flavoring and packaging items, selected out of a total of 53 items, accounting for approximately 76% of the total inventory value, using an ABC analysis. The continuous review policy, Min-Max (s, S), and fixed order quantity (s, Q) policy were applied to the simulation-based optimization process in order to compare the results with the current inventory management policy of the company in question. Simulation-based optimization was used to manage uncertainty in the demand and determine the optimal reorder point as well as the optimal order quantity. The result of simulation-based optimization showed that the fixed order quantity-(s, Q) policy resulted in a 37.21% reduction in the current inventory cost of the company, standing at 7,069,893 Baht. The result of the Min-Max (s, S) policy also led to a reduction in the total inventory costs of 32.48%. Given the satisfactory theoretical results, a rather easy implementation in practice, and the reduced total inventory cost in the current company’s budgeting policy, this research recommends the implementation of fixed order quantity (s, Q) policy as an optimal inventory management policy.