Incorporating transportation costs into inventory replenishment decisions

Abstract

Dating to the origination of economic order quantity (EOQ) models, the objective of inventory replenishment decisions has centered on the minimization of total annual logistics cost. Accurate solutions require that all relevant costs be appropriately incorporated into the total annual logistics cost function to determine purchase quantities. Depending on the estimates used, upwards of 50% of the total annual logistics cost of a product can be attributed to transportation. Any consideration of purchase quantities should therefore consider transportation costs. To appropriately incorporate transportation cost into the total annual logistics cost function, it must first be possible to identify transportation cost functions that emulate reality and simultaneously provide a straightforward representation of actual freight rates. This study demonstrates that straightforward freight rate functions presented in the literature can be incorporated into inventory replenishment decisions without compromising the accuracy of the decision. Equally important, these functions can be incorporated without adding undue complexity to the decision process.