Loss-based quality costs and inventory planning: General models and insights

In this paper, we examine a joint lot-sizing and process investment problem with random yield and backorders. We allow for inspection and develop stochastic models which provide the optimal inspection and lot-sizing policy as well as the optimal process investment for variance reduction. The process quality loss profile around the target is captured via a modification of the Reflected Normal loss function. We conduct numerical experiments assuming that the proportion of defectives follows a Uniform distribution while the process quality characteristic follows either a Normal or Uniform distribution. We also develop closed-form solutions that depend on at most the first two moments of any general probability distribution of defective units and which allow us to examine the nature of optimal policies. We demonstrate via numerical experiments the value of our integrated approach for jointly determining optimal inventory, inspection, and investment policies. Overall, our models and analyses provide some interesting insights into this reasonably complex inventory-quality problem and open up several avenues for future work in this area.