Financing Inventories with an Investment Efficiency Objective: ROI-Maximizing Newsvendor, Bank Loans and Trade Credit Contracts

Abstract

The inventory and supply chain management literature barely mentions any use of capital efficiency metrics, such as Return-on-Investment (ROI), and their impact on ordering decisions and inventory investments. Our work will offer an understanding of how such metrics, like ROI, affect orders at a stand-alone single stocking stage under demand uncertainty (newsvendor-like models) or within bilateral supply chains of a supplier and retailer interacting with the use of a trade-credit-contract. The ROI-driven newsvendor without any capital constraints offers similar insights to earlier Economic-Order-Quantity work. The newsvendor orders less than the traditional quantity. The insights carry through to model extensions that account for capital constraints, bankruptcy risks and costs. The analysis of the trade-credit contract with an ROI-optimizing retailer continues to support the low-interest rate of such contracts, but interestingly shows that the retailer now orders more than under profit optimization. As a result, the overall supply chain efficiency improves, and the retailer appropriates a larger percentage of the chain profit.