Operational Disruption Exposure and Part Inventory Replenishment

Abstract

High impact / low probability supply chain disruptions represent a major challenge for firms. Such disruptions represent a classic bottleneck shifting problem. When the firm can backlog some portion of its unmet customer orders, its disruption exposure is driven by (i) lost demand in the disruption period due to part constraints and (ii) lost demand in the recovery period due to capacity constraints. Although holding inventory has been shown to mitigate a firm's disruption exposure, it is considered costly to do so. We address this complication by showing that the firm's disruption exposure is decreasing at a decreasing rate with the inventory quantity of the disrupted part. More surprisingly, the firm's disruption exposure is decreasing at a decreasing rate with the inventory quantity of non-disrupted parts. We exploit these findings to further show that the firm can materially reduce its disruption exposure across all parts by holding a small amount of incremental inventory of selected parts. Using these insights and the detailed supply chain and operational data from our research partner, a large manufacturer of material handling equipment, we show how targeted changes to the firm's inventory policies across many parts can achieve a significant reduction in its disruption exposure, at no cost. This strategic pool of parts serves as a means for the firm to effectively store its otherwise unused disruption period production capacity.