Impact of transportation contract on inventory systems with demand cancellation

Supply contracts often specify the quantity of inventory for shipments where retailers are liable to pay for ordering costs if order quantity exceeds the contracted size. We analyze a periodic review system where the firm manages its demand that are reserved with a one-period leadtime together with a multi-tier supply contract. We show that the optimal inventory policy has the primary structure of “finite generalized base stock” policy whose critical numbers depend on reservation parameters. The single, multiple periods and the infinite horizon models are studied. The presence of ordering costs needs a different approach from that in Yuan and Cheung (2003) to analyze the infinite horizon model.