Shortage Cost (C4)
The shortage cost is due to the delay in satisfying demand (due to wrong planning); but the demand is
eventually satisfied after a period of time. Shortage cost is not considered as the opportunity cost or cost of lost
sales. The unit shortage cost includes such items as,
(1) Overtime requirements due to shortage,
(2) Clerical and administrative expenses.
(3) Cost of expediting.
(4) Loss of goodwill of customers due to delay.
(5) Special handling or packaging costs.
(6) Lost production time.
This cost is denoted by Rs. C4 per item per unit time of shortage.
INVENTORY MODELS (E.O.Q. MODELS)
The inventory control model can be broadly classified into two categories:
(1) Deterministic inventory problems.
(2) Probabilistic or stochastic inventory problems.
In the deterministic type of inventory control, the parameters like demand, ordering quantity cost, etc are
already known or have been ascertained and there is no uncertainty. In the stochastic inventory control, the uncertain
aspects are taken into account.
First let us consider the inventory control of the deterministic type. There are four EOQ models which are
discussed below. The first one is the well-known Wilson’s inventory model.
Model 1: Purchasing model with no shortages: (Wilson’s model)
The following assumptions are made in deriving the formula for economic order quantity.
(1) Demand (D) is at a constant rate.
(2) Replacement of items is instantaneous (lead time is zero).
(3) The cost coefficients C1, C2, and C3 are constant.
(4) There is no shortage cost or C4 = 0.
This mode represented graphically in fig. 1. This is also known as a saw tooth model (because of its shape).
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