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International Journal of Production Research

Vol. 50, No. 5, 1 March 2012, 12431264

Reverse Logistics: a stochastic EOQ-based inventory control model for mixed


manufacturing/remanufacturing systems with return policies
Alberto Alinoviy, Eleonora Bottani* and Roberto Montanari
Department of Industrial Engineering, University of Parma, Parma, Italy
(Final version received February 2011)
This paper focuses on mixed manufacturing/remanufacturing systems, where manufacturing or purchase of
new items integrates product reuse or remanufacturing, with the purpose to achieve a complete and timely
demand satisfaction. We formulate a stochastic Economic Order Quantity (EOQ)-based inventory control
model for a mixed manufacturing/remanufacturing system. The model is intended to identify the need of
placing a manufacturing/purchasing order, to avoid the occurrence of stock-out situations. We then formulate
a total cost minimisation problem, to derive the optimal return policy, this latter being a financial incentive
paid to customers to increase the flow of returned items. The model developed is investigated through
simulations, in order to assess the effect of stochasticity (of demand, return fraction and return delay) on the
optimal return policy of the system; then, it is validated through a case study, to derive indications concerning
its practical application in real cases. Our study ultimately provides a framework for practitioners to establish
EOQ policies in reverse logistics contexts and to evaluate the opportunity of establishing a return policy in
those contexts.
Keywords: reverse logistics; EOQ inventory control; optimal return policy; uncertainty management;
asset management

1. Introduction
Reverse Logistics (RL) is the process of planning, implementing and controlling the efficient and effective flow of
materials, products and information from the points of consumption to the point of origin, for the purpose of
recapturing value or proper disposal (Rogers and Tibben-Lembke 1999). RL practices, including product recall,
recycling and disposal, are currently observed in a lot of economic and manufacturing environments, and the
Reverse Logistics Executive Council (Rogers and Tibben-Lembke 1999) estimates in billions of dollars the
American annual RL costs, resulting in a non-irrelevant fraction of the Gross Domestic Product.
There are several reasons why RL practices are increasingly applied in manufacturing and logistics
environments. First, RL is an answer to ecological and environmental problems. Long-term business sustainability
objectives and the increasing cost of traditional disposal force manufacturers to make significant efforts to
reintegrate used product into industrial production processes. Hence, more and more companies should improve
services provided to customers as regards replacing defective goods, repairing used products, refurbishing returned
products, recalling harmful goods and disposing product waste. All the above activities generate reverse flows in the
supply chain, and require their proper management for a company to remain competitive and differentiated.
Legislation and directives, consumer awareness and social responsibilities toward the environment are further
drivers for RL (Castell et al. 2004, Bloemhof and van Nunen 2005, Ravi and Shankar 2005). In the context of
Europe, for instance, German manufacturers are generally responsible for the final destination of their products;
moreover, the Packaging Ordinance (VerpackV 1998) mandates that German industries organise the reclamation of
reusable packaging waste. Procedures for collection, recycling and recovery targets for all types of electrical goods
are also set by the Waste Electrical and Electronic Equipment Directive (European Commission 2003), which
imposes responsibility for the disposal of electric and electronic equipment on manufacturers. A further important
act is the End of Life Vehicles Directive 2000/53/EC (European Commission 2000), which sets clear quantified
targets for reuse, recycling and recovery of vehicles and components.

*Corresponding author. Email: eleonora.bottani@unipr.it


yCurrent address. Continuous Improving Department, Heinz Italia S.p.A., Milan, Italy.
ISSN 00207543 print/ISSN 1366588X online
2012 Taylor & Francis
http://dx.doi.org/10.1080/00207543.2011.571921
http://www.tandfonline.com

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Virtually any market field should deal with the problem of retrieving products from the market and defining
their proper disposition. Besides the case of vehicles and electrical equipment, logistics assets (or returnable
transport items) are a further example of products commonly involved in forward flows towards supply chain
partners and reverse flows. The proper management of forward and return flows of assets is a crucial question, as
their failure to enter the return channels, due to loss, theft or damage, involves relevant costs for companies (Breen
2006).
When approaching the analysis of RL systems, it is important to remark that reverse flows may be regarded by
firms under two different perspectives. Under some circumstances, product returns are only considered as a logistic
cost; thus, the typical goal of a company is to minimise their extent. However, more recently, companies have
realised that RL can become a leverage for gaining competitive advantage (Marien 1998); hence, economic
profitability from remanufacturing, reuse or recycling may also be the reason for favouring return flows. In the case
of logistics assets, for instance, remanufacturing/refurbishing and reuse are of particular interest, as assets reused do
not add to the amount of items to be recycled or destroyed, thus reducing the total logistics cost of a company
(European Commission 2007). Nonetheless, to work correctly, remanufacturing environments require a continuous
supply of market-used products (Klausner and Hendrickson 2000) and, consequently, a typical business goal is
maximising return flows, instead of reducing them. To this extent, a company could decide to establish a return
policy, i.e. a financial incentive paid to their customers to favour product or asset returns. In the current paper, we
refer to this latter situation.
Those contexts where assets can be reused, or returned products can be remanufactured and sold in the finishedgoods market, are known as mixed manufacturing/remanufacturing systems (MRSs). In such systems, some items
are remanufactured after their use by the customer, whereas manufacturing or purchasing of new items are required
when the return flow is insufficient to fulfil customers demand. MRSs are relevant to the RL context; however, their
analysis is complicated, because of:
(1) the complexity of material flows. In particular, a crucial question is represented by the necessity of a joint
coordination of the forward and reverse flows (Ketzenberg 2009);
(2) the uncertainty of demand, lead time and returns, which can significantly undermine the synchronisation of
forward and reverse flows (Chanintrakul et al. 2009).
According to this premise, in the current paper we formulate a stochastic analytic model representing a useful
framework for the establishment of an EOQ policy for a mixed MRS, and analytically derive the optimal return
policy. Moreover, we investigate the effects of stochasticity on the optimal return policy for an MRS operating
under the proposed EOQ policy.
The paper is organised as follows. In the next section, we review the relevant literature concerning models for RL
systems, with particular attention to inventory control and optimal return policy. In Section 3, we present the EOQ
model for an MRS, and assess the effects of stochasticity on the optimal return policy for the MRS analysed. In
Section 4, a case study is presented to show the application of the model to a real situation, and to derive insights for
practical implementations. The paper ends by a discussion of findings, managerial issues and suggestions for further
research.

2. Literature review
In accordance with the industrial interest raised by RL issues in recent years, literature on the topic is huge and
addresses different aspects related to MRSs. Owing to the focus of this paper, we analysed papers dealing with: (1)
inventory control models for MRSs; and (2) optimisation of the return policy and of the whole RL system.
With regard to the first point, inventory management in RL systems has received much attention in recent years,
and numerous EOQ-based inventory control models for MRSs have been developed so far. It is commonly accepted
that the first contribution to this area was given by Schrady (1967), who formulated a deterministic EOQ-based
model, assuming constant demand and return rates and fixed lead times for external orders and recovery. More
recent studies include Richter (1996), who considered an EOQ model with constant disposal and used-product
collection rates. Koh et al. (2002) developed a joint EOQ/EPQ (Economic Production Quantity) model, assuming
that demand could be satisfied both by remanufacturing used products and purchasing new items. Oh and Hwang
(2006) proposed an optimal inventory control policy for a recycling system, assuming deterministic demand and

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return fraction and null production lead times. Other works on the same topic include Teunter (2004), Dobos and
Richter (2004), Inderfurth et al. (2005) and Konstantaras and Skouri (2009).
Most of the proposed models focus on the calculation of optimal ordering and production lot sizes under
deterministic conditions, and assume the feasibility of infinite production and remanufacturing rates, with
consequent instantaneous flows of newly remanufactured or recovered goods. A typical critique to those models
thus consists of the scarce applicability of the formulation (Jaber and Rosen 2008). Specifically, in practical cases, it
is nearly prohibitive to punctually estimate parameters such as order cost, inventory holding cost and shortage cost,
which are basic inputs for EOQ lot sizing formulae, and whose wrong estimation may produce misleading results.
A further limitation of those approaches is that the problem is formulated as deterministic, according to the
traditional EOQ model. However, it is plainly acknowledged by researchers that a main challenge of supply chain
management is making decisions when facing uncertainty or incomplete information. Hence, deterministic models
are often unrealistic and of limited practical usefulness. Stochastic models for RL systems are proposed in a limited
group of papers. For instance, Fleischmann et al. (2002) proposed a basic inventory model, assuming Poissondistributed demand and returns, and derived the optimal control policy of the system. A limitation of this work is
that the authors assumed independent demand and return rates, whereas establishing a return policy could involve
dependence between demand and returns. More recently, Alinovi et al. (2009) simulated an RL system with
instantaneous integrative manufacturing flows; in this work, however, the authors assumed the delivery lead time to
be deterministically zero.
We already mentioned that firms operating in MRSs need a continuous supply of used products, and that return
policies are a possible means to ensure product return. Hence, a further topic investigated in the literature is the
optimisation of the return policy and of the RL system as a whole. In the case RL systems (with or without a return
policy) are examined for optimisation, the problem is often addressed by means of linear programming models,
intended to identify the minimum total cost or maximum profit of the system (e.g. Thierry et al. 1995,
Veerakamolmal and Gupta 1999, Hu et al. 2002, Beamon and Fernandes 2004, Savaskan et al. 2004, Lieckens and
Vandaele 2007). This is consistent with the fact that the total cost is one of the main performance measures of RL
systems, and of supply chains in general, which allows efficiency of the channel (Pochampally et al. 2009).
Minimising the total cost, while assuring a defined service level to the customer, is also the strategy used in this
study. Focusing on works which consider return policies, Linton et al. (2005) studied the available management
options for inventory control in environments collecting large waste flows of durable goods to support
remanufacturing activities, with particular reference to the case of cathode ray tube (CRT) televisions. The authors
consider the opportunity of additional expenditures to improve public awareness and interest, in order to increase
the supply of raw-material waste in the short and medium term. The opportunity to motivate consumers to sell their
used products with financial incentives has also been addressed by Lee (2001), Tsay (2001), Lau and Lau (1999) and
Emmons and Gilbert (1998). Setoputro and Mukhopadhyay (2004) proposed a model for determining the optimal
return policies as a function of given market reaction parameters, in an e-business environment. Liang et al. (2009)
also studied the formulation of a financial incentive for consumers to assure continuous supply of used products, in
analogy to financial option pricing. However, these contributions only studied uncertainties affecting finished
product demand; conversely, stochastic returns also significantly affect the return policy.
In comparison with previous research, our work aims at being more representative of real contexts; with this
purpose in mind, we have paid particular attention to:
. formulating the model to include stochasticity of demand, return fraction and lead times, at the same time
without focusing on specific probabilistic distributions;
. considering non-zero ordering and manufacturing lead time.
Conversely, we do not concentrate on lot sizing, assuming lot sizes to be given parameters, derived from external
constraints (e.g. capacity of transport vehicles) or a firms estimations.

3. A stochastic EOQ-based inventory control model for RL systems with return policies
3.1 Notation, introduction and definitions
Throughout the paper, we use the notation proposed in Table 1.
We consider a simple MRS system, made up of two echelons, i.e. a manufacturer and the end customers (see
Figure 1). This system integrates manufacturing activities with reuse of returned market-used items. We assume that

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Table 1. Notation used in the paper.


Symbol

Description


tmax
t, k
dt
t
d
d~t
rt
t


RLTt
RLT
RLT
 RLT
IH t
It
pt
st
nDLT
EOQ

q
i
Yqi
Dq

time domain
length of the time horizon
generic days of the planning horizon, t, k 2 fNj1  t, k  tmax g
daily demand
daily demand expected value
demand standard deviation
historical demand (as the outcome of the random variable dt on the historical day t)
daily return flow
return fraction
return fraction expected value
return fraction standard deviation
return lead time
return lead time probability mass function
return lead time expected value
return lead time standard deviation
on-hand inventory
inventory position
items supplied daily
items ordered daily
delivery lead time
order lot size
maximum tolerated stock-out probability
forecasting day


generic day in the forecasting horizon, i 2 q 1, q 2, . . . , , q nDLT
random return amount on day i, based on information available on day q
total random demand during the forecasting horizon, based on information available
on day q
total random returns during the forecasting horizon, based on information available
on day q
random net demand, i.e. demand minus returns, during the forecasting horizon,
based on information available on day q
stock-out probability during the forecasting horizon
Bernoulli random variable (with k  i)
probability mass function of Zki
Bernoulli parameter of Zki
demand period
demand error
return policy
RL base cost
unitary cost of returned items
inferior asymptotic limit of the curve  
superior asymptotic limit of the curve  
flex point of the curve  
standard deviation of the curve  
beta random variable parameters
maximum feasible standard deviation for the beta variable
on-hand inventory at t 0
total cost function
unitary purchasing/manufacturing cost
daily inventory holding cost

Yq
Uq
q
Zki
Zki
pki
T
e

0

p1
p2


1 , 2
 max
IH
0
TC
cp
hI

Measurement unit

[days]

[items/day]
[items/day]
[items/day]
[items/day]
[items/day]

[days]

[days]
[days]
[items]
[items]
[items/day]
[items/day]
[days]
[items]

[items/day]
[items]
[items]
[items]

[days]
[items/day]
[%]
[E/item]
[E/item]

[items]
[E]
[E/item]
[E/item/day]

returned items are of the same quality as the newly manufactured ones or, alternatively, that all returned items
having a low quality level can be instantaneously refurbished to the standard quality required for sale. The first
circumstance may suite more properly for MRSs dealing with assets, which commonly undergo lots of reuse cycles
before needing substantial maintenance interventions; conversely, the second hypothesis may hold for proper
product remanufacturing systems.

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Figure 1. A simple integrated RL system.

As Figure 1 shows, the system faces the external customer demand dt, and receives reverse flows of marketreturned items rt. We consider a discrete time domain, represented by t 2 , where  ft 2 N : 1  t  tmax g. dt
is a non-negative continuous random variable, with t and  2d parameters. Note that time dependence for t
allows modelling seasonal behaviour of demand. Return flows are strictly related to the historical demand, as the
whole quantity demanded at day t is supposed to result in a return fraction t after RLTt days. t is thus a
continuous random variable defined over the interval 0, 1, with  and  2 parameters. RLTt is a discrete nonnegative random variable, with probability mass function RLT , and RLT and  2RLT parameters.
Demand is to be satisfied through on-hand inventory, IH t, which can either be replenished through market
returns or manufacturing/external purchase. We assume that the supplied quantity pt is the result of a previous
corresponding order st of the same size. This latter was either placed to the supplier (in case of purchase) or to the
manufacturing plant (in case of internal production) nDLT days earlier. Hence, we may define the inventory position
It as the sum of IH t and the quantities ordered, but not yet delivered, which are expected to be physically
available within nDLT days. Orders are placed for a fixed amount of items, defined a priori and corresponding
to EOQ.

3.2 Analytical derivation of the stock-out probability


The inventory control model is aimed at determining whether the manufacturer should place a manufacturing/
purchasing order, to prevent the occurrence of out-of-stock situations, due to insufficient returns or excessive
demand.
Let q be a generic day in the time domain V, on which we want to evaluate the opportunity to place an order (cf.
Figure 2). At each day q, the decision to place an order is based on the computation of the probability of stock-out
occurrence in the following days; specifically, the manufacturer should estimate the stock-out probability q during
the forecasting horizon (i.e., from q 1 to q nDLT ). We assume that q nDLT  tmax , remarking that tmax should
be taken instead
of q nDLT when theabove inequality does not hold. We consider the day i in the forecasting

horizon i 2 q 1, q 2, . . . , q nDLT and the amount of returned product on that day, Yqi . The distribution of
Yqi is expected to depend on the information on historical demand available at day q, as it is reasonable that the
returned quantity depends upon the demanded quantities and on their probability to be returned on a defined day.

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Day on which we have to


decide whether an order
should be placed

q q+1 q+nDLT1

Historical demand
~
d (t )

q+nDLT

tmax

Forecasting horizon
(i=q+1,q+nDLT)
Time domain W

Yi q , d(i) for

D , Y , U , Iq
q

q+1

i = q+1,q+nDLT

q+2

q+nDLT2 q+nDLT1 q+nDLT

Figure 2. Scheme for the computation of q.

One of the underlying assumptions of the model, in fact, is that the manufacturer does not have historical data of
return flows available, so that it has to estimate the amount of future return flows only based on the historical
deliveries. Such circumstance can be observed in the case the manufacturer did not establish a proper tracking
system, which may allow to precisely link returns with past deliveries.
We hereafter use the symbol  to denote historical (known) data, which reflect the known outcomes of the
corresponding random variables; for instance, d~t denotes the known outcome of the random variable dt at day t.
According to the definitions of q , Dq , Yq and Yqi in Table 1, the following equations hold:
Dq

qn
DLT
X

di

Yqi

iq1

Yq

qn
DLT
X
iq1

Uq Dq  Yq

qn
DLT
X

di  Yqi

iq1

q PUq 4 Iq
where we denote as P the probability of the event in brackets.
We now define Zki as follows:

1, if k RLTk i
Zki
0,
else

By denoting as pki the probability of the quantity dk  k to return on day i, Zki j can be written as follows:

pki ,
if j 1
Zki j PZki j
6
1  pki , if j 0

International Journal of Production Research

1249

The calculation of pki may be easily obtained from the probability mass function of RLT, as follows:
pki PRLTk i  k RLT i  k

It is important to remark that Equation (7) is valid regardless of the specific distribution of RLT(t), meaning that,
for developing the theoretical model, no assumptions are required in this regard. Because we assume that any
delivery of a given past day results in a return on only one future day, the following constraint holds:
1
X

Zki 1,

8k 1, . . . , tmax

ik

Having hypothesised that no historical data on return flows are available, to derive an analytic expression of q ,
some probabilistic parameters should be estimated, namely:
(1) the expected value and variance of return quantity at day i (propositions 1 and 2);
(2) the correlation between returned quantities at two different days (proposition 3). This parameter is required
to derive the variance of the total return flow over the forecasting horizon;
(3) the expected value and variance of the total return flow over the forecasting horizon (proposition 4);
(4) the correlation between the total demand over the forecasting horizon and the total returned flow
(proposition 5);
(5) the distribution of the net demand over the forecasting horizon (proposition 6).
For simplicity, we will henceforth introduce a notation change for time-dependent variables, moving the indication
of the day t from the argument in brackets to a newly introduced subscript (e.g., dt will be rewritten as dt ).
Proposition 1: According to the historical data available on the forecasting day q, the expected value of the returned
quantity on day i can be expressed as follows:
!
q
i
X
X
 q
d~k  pki
k  pki
9
E Yi  
k1

kq1

See the Appendix for the proof of Equation (9).


Proposition 2: According to the historical data available on the forecasting day q, the variance of the return quantity
on day i has the following expression:
q n
h

io
  X
d~2k   2 2  pki  2 p2ki
Var Yqi
k1

i
h

i
X

 2d 2k   2 2  pki  2k  2  p2ki :

10

kq1

See the Appendix for the proof of Equation (10).


q
Proposition 3: Let Yqi and
 Yj be the random variables
 representing the quantities to be returned on days i and j of the
forecasting horizon (i, j 2 q 1, q 2, . . . , q nDLT , i 6 j), according to the information available on day q. Yqi and
Yqj are not independent and their covariance has the following expression:
2
3
fi,jg 
q
h
i

min
X
X

d~2k  pki  pkj
2k  pki  pkj 5:
Cov Yqi , Yqj 2  4
11
k1

kq1

See the Appendix for the proof of Equation (11).


It is not surprising that the expression for covariance in Equation (11) is negative. We actually expected Yqi and
to be negatively correlated, according to their competition as to receiving returns of past deliveries. As an
additional
we can note that no contribution to covariance is given by deliveries occurring between
 remark,

  min i, j
and max i, j . The reason is that there is no chance for items delivered in that period to return on min i, j ; hence, no
competition between the two variables arises under this circumstance. Finally, we remark that covariance tends to
Yqj

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A. Alinovi et al.

be lower in the absolute value and it approaches zero when i and j are relatively (compared to RLT ) distant from
each other. The mathematical reason for this result is that for any day k  i, j, at least one between pki and pkj should
be close to zero, so that all addends in Equation (11) give little contribution to the whole sum. Once again, this can
be interpreted as a result of little competition between days in attracting past deliveries for return.
Proposition 4:

The expected value and the variance of Yq have the following expressions:
!
qn
q
i
DLT
X
X
X
d~k  pki
k  pki :
E Yq   
iq1

VarY 

qn
DLT
X

iq1

k1

12

kq1

q n
h

io
X
d~2k   2 2  pki  2 p2ki
k1

i
h

i
X


 2d 2k   2 2  pki  2k  2  p2ki


kq1

" q
#)
j

X
X X
 2

2
2   
d~k  pki  pkj
k  pki  pkj
:
2

j5i

13

kq1

k1

See the Appendix for the proof of Equations (12) and (13).
Proposition 5:

Covariance between Dq and Yq has the following expression:


CovDq , Yq     2d 

qn
DLT
X

i
X

pki

14

iq1 kq1

See the Appendix for the proof of Equation (14).


Proposition 6: The distribution of the net demand during the forecasting horizon (Uq ) may find normal approximation
with the following parameters:
E Uq 

qn
DLT
X

i  E Yqi 

15

iq1

VarUq  nDLT   2d VarYq   2  CovDq , Yq 

16

See the Appendix for the proof of Equations (15) and (16).
The stock-out probability q over the forecasting horizon reflects the probability of the net demand to exceed the
current inventory position; on the basis of the propositions above, and through a normal approximation, it can be
computed as per Equation (17):




Iq  E Uq 
q P Uq 4 Iq  1   p
17
VarUq 
where we denoted the cumulative distribution function of the normal random variable by . In the case q exceeds a
defined threshold (q 4 ), a manufacturing/purchasing order should be placed, to prevent shortage.

3.3 Model simplifications


To improve its ease of application, the model described above can be simplified, without compromising the
correctness of the results provided. More specifically, we have hypothesised that Yqi represents the returns on day i,
forecasted at day q; hence, the returns distribution of a given day i in the planning horizon should change according
to the position of q within the forecasting horizon and to its proximity to i. A possible simplification consists of only
considering Yi variables, assuming to know historical data until i, so that the distribution of returns for each day i

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International Journal of Production Research

will not change for all forecasting days including i in their respective forecasting horizon. This assumption is
unrealistic, because historical data are known only until the forecasting day and not until each day of the forecasting
horizon. Notwithstanding, the effects of such an unrealistic framework may be negligible if we assume that
RLT nDLT : in such a context, the demanded quantities on days immediately preceding any day i in the
forecasting horizon and following day q, have very low probability to generate a return on day i. Hence, historical
demand on those days (which would not be known in real contexts) does not significantly affect the resulting stockout probability. On the basis of this premise, the simplified definition of Yi is as follows:
Yi

i
X

d~k 

 Zki

18

k1

The definitions of k and Zki remain unchanged. For brevity, we omit the proofs for the following equations, which
can be easily obtained following the achievements of Section 3.2. Where necessary, we use a left-hand side
superscript () to avoid ambiguity with the notation previously used.
E Yi   

i
X

d~k  pki

19

k1

VarYi 

i n
h

io
X
d~2k   2 2  pki  2  p2ki ,

20

k1

minfi,jg
X


d~2k  pki  pkj ,
Cov Yi , Yj 2 

21

k1

 q

qn
DLT
X

Yi ,

22

iq1

E  Yq   

qn
DLT
X

i
X

d~k  pki ,

23

iq1 k1

 q

Var Y 

qn
DLT
X
iq1

i n
X

d~2k 

j
h

io
XX
d~2k pki pkj
 2 2  pki  2 p2ki  22

)
24

j5i k1

k1

 q

U Dq  Yq

qn
DLT
X

di  Yi ,

25

iq1

E Uq 

qn
DLT
X

i  E Yi ,

26

iq1

VarUq  nDLT   2d VarYq ,

27





Iq  E Uq 

 P Uq 4 Iq  1   p
:
VarUq 

28

 q

The above simplified formulae will be used in the remainder of the paper.

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3.4 Derivation of the optimal return policy


We now consider the opportunity for the manufacturer to offer a return policy to increase the volume of returned
items. On the basis of the definitions provided in the previous sections, we can rewrite Equation (18) to express
return flows for each t 2 , as a function of demand and return fraction, i.e.:
rt

t
X

dk  k  Zkt

29

k1

Let  represent the return policy, expressed as a percentage of the logistics cost 0 of the item. In the case a return
policy is applied, the unitary cost of returned items increases to  0  1 . At the same time, the return policy is
expected to enhance the return volume, thus reducing the cost of manufacturing/purchasing new items. Hence, the
opportunity of introducing a return policy is modelled inside a total cost-minimisation problem, which allows
deriving the optimal value of the return policy. As proposed by Thierry et al. (1995) for returns in function of the
intensity of environmental policies, we model customer compliance for returning items with an S curve, as in the
following equation:
Z


1
1 x 2
 p1 p2  p1  p
e2  dx,
30
2 1
According to the inventory control model described, the manufacturer places an order, of quantity EOQ, if the
stock-out probability exceeds a defined threshold, i.e.:

EOQ, if  t

st
31
0,
else
and:

pt

0,
st  nDLT ,

if t  nDLT
:
if t 4 nDLT

32

If we define IH
0 as the starting on-hand inventory level (cf. Table 1), the transition equations for inventories can be
expressed as follows:

where I 0 I0
follows:

IH
0.

IH t IH t  1 rt  dt pt,

33

It It  1 rt  dt st,

34

The formulation of the optimal return policy for the MRS can be finally obtained as

min TC


tmax
X

cp  pt   rt hI  IH t

35

t1

3.5 Effects of stochasticity on the optimal return policy


Our next purpose is to investigate the behaviour of a simulated system operating under the EOQ model described in
Sections 3.23.4; in particular, we focus on calculating the optimal return policy under different stochastic
conditions. Since the analysis performed here is based on simulation, some assumptions should be made with regard
to the demand behaviour. Without loss of generality, we consider the case of seasonal demand, with:
t a b  sin!t

36

where ! 2=T. Demand stochasticity is then modelled as:


dt t e
where e  N 0,  2d .

37

International Journal of Production Research

1253

We have previously mentioned that the inventory control model is valid regardless of the distribution of RLT(t).
Nonetheless, to apply Equation (7), either for simulation purpose or in a real scenario, we have to assume (or know)
the distribution of RLTt. We suppose here that RLT(t) is the integer rounding of a normal random variable, with
parameters RLT and  2RLT , so pkt is calculated as:




t  k 0:5  RLT
t  k  0:5  RLT

:
38
pkt 
 RLT
 RLT
We model as a beta random variable over the interval 0, 1 with parameters 1 and 2 , which can be calculated
from  and  as follows:
8
"
#


>


1


>
>
>
1
  
>
< 1
2
"
#:
39


>

   1
>
>
> 2 1   
1
>
:
2


The positivity constraint for 1 and 2 requires  2 5   1   ; thus, we define a maximum allowed value
of  as:
q


 max : k    1  
40
with k 2 0, 1.
We report in Table 2 the parameters used for the simulated scenario. Note that the hypothesis RLT nDLT is
adequately respected, since the maximum value of  RLT used in simulation (cf. Table 3) is 12 and the probability for
a normal distribution with expected value 50 and standard deviation 12 to be lower than 20 (nDLT ) is negligible
( 0:62 %).
The first simulation investigates the effect of demand stochasticity ( d ) on the optimal ;  d was varied from 0 to
20 (step 5). The optimal value of  was derived by comparing the experimental mean values of the total cost obtained
with different , ranging from 01 (step 0.05), with 50 replications for each . As Table 3 shows, a (slight) decreasing
trend for the optimal return policy as a function of  d is observed, whereas the costs calculated in correspondence of
an optimal return policy showed an increasing trend.

Table 2. Simulation parameters for the basic scenario.

Acronym
a []
b []
T [days]
tmax [days]
EOQ [items]
nDLT [days]
0 [E/item]
cp [E/item]
hI [E/item/day]
p1 []
p2 []
 []
 []
RLT [days]
 RLT [days]
 d [items/day]
 []
 []

Numerical
value
50
10
250
750
544
20
3.2
10
0.1
0.3
0.95
0.5
0.2
50
1
0
0
0.01

1254

A. Alinovi et al.

Table 3. Sensitivity analysis for the effect of  d on the


optimal return policy.
d
[items/day]
0
5
10
15
20

Optimal return
policy [%]

Optimal
costs [E]

0.7
0.7
0.7
0.65
0.65

362.25
363.17
365.67
378.49
393.84

Table 4. Sensitivity analysis for the effect of 


optimal return policy.

 []

on the

Optimal return
policy [%]

Optimal
costs [E]

0.7
0.7
0.65
0.7
0.7

362.25
362.20
363.93
367.25
371.11

0
0.05
0.1
0.15
0.20

Table 5. Sensitivity analysis for the effect of  RLT


on the optimal return policy.

 RLT [days]
1
5
8
10
12

Optimal return
policy [%]

Optimal
costs [E]

0.7
0.6
0.65
0.6
0.6

362.25
375.25
383.77
390.92
393.10

The sensitivity analysis for  RLT (Table 4) shows a similar behaviour. Specifically, we found a decreasing trend
for the optimal return policy and an increasing trend for the optimal cost, as a function of  RLT . Conversely, the
optimal return policy is almost insensitive to  (Table 5), although the optimal cost still displays an increasing
trend.

4. Case study
In this section, we exploit the inventory control model developed before to evaluate the usefulness of establishing a
return policy in a case study, referring to the problem of asset (i.e., pallet) management between a company and its
customers. The company considered is headquarted in Milan (Italy), where it operates as a confectionery and
croissant manufacturer, offering more than 400 bakery and ice cream products. Such products are primarily sold in
hotels, restaurants and catering (HO.RE.CA.) and retail markets, where the company serves approximately 50
customers. To deliver products to customers, the company handles about 300,000 pallets, 13% of which should be
annually replaced, due to damage, theft and loss; theft and loss are responsible for about half the amount of pallets
purchased annually. Although the current return fraction for assets is about 87% (i.e., 139,000/300,000), the
company incurs significant costs for the purchase of new pallets, accounting for about 350,000 E/year, having
estimated in 9 E/asset the cost of a new asset.
Thanks to some contacts with the company, we got the data related to forward and reverse flows of assets for
about 660 working days (from day 220 to day 880). A partial list of flows is provided in Figure 3. It can be seen from
Figure 3 that, in the current situation, the company knows the amount of assets shipped and returned each day, as
well as the stock of assets available. According to the companys asset management policy, an order for purchasing
new pallets is placed anytime the current stock is lower than a defined threshold. The quantity purchased is always
550 pallets, corresponding to a full-truck-load shipment. The amount of pallets shipped and received each day, in
turn, is generated by fulfilment of customers orders and returns from customers respectively. As an example,
Figure 3 shows the details of quantity shipped and returned at day 225. It can be seen from the figure that each
shipment is coded as Zxx-yyyy, where Z indicates the product, xx is the customers identifier and yyyy is
the shipping number. The company sends products (and pallets) in response to the customers demand, by means of
full-truck-load shipments; hence, each shipment includes 2933 pallets. Once an order is shipped, it arrives at the

Figure 3. Partial list of forward and reverse flows for the case study company.

International Journal of Production Research


1255

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A. Alinovi et al.
Table 6. Input data for the case study company.
Acronym

Numerical value

tmax
(t)
d


EOQ
RLT
 RLT
cp
hI
nDLT
0
p1
p2



880 days
621.11 pallet/day
6.17 pallet/day
0.87
0
550 pallets
50 days
9.82 days
9E/pallet
0.04E/day/pallet
4 days
0.8E/pallet
0.3
0.95
0.5
0.2

customers site within two working days, and the pallets received are included in the stock of assets available at the
customers site. The procedure adopted by the company for managing reverse flows of assets is the deferred
exchange (European Commission 2007). This means that customers return pallets to the company when they can
send back a full-truck-load shipment, including approximately 520550 empty pallets. Once the return flow is
shipped, it will reach the company within two working days. The time required to collect 520550 pallets is 50 days
on average (cf. Table 6); as an example, it can be seen from Figure 3 that pallets which return to the company at day
225 were shipped to the customer starting from day 189.
The case study company considered is a good example of a mixed MRS, where pallets can be either sent back by
customers or purchased externally; hence, the issue of avoiding the occurrence of out-of-stock situations is relevant,
as well as the potential application of a return policy for enhancing the return flows. To our knowledge, financial
incentives are not currently exploited by the company.
Historical data concerning forward and reverse flows were used to derive the statistical parameters of demand
and returns, to allow their correct simulation. Table 6 shows a list of input data derived from the analysis of the
historical flows of the company, as well as from direct contacts with it. Then, we have carried out an economic
analysis by comparing:
. the AS IS scenario, which reflects the current asset management policy of the company, as it results from
the forward and reverse flows in Figure 3; and
. several TO BE scenarios, where we apply the inventory control model proposed in Section 3 to decide
whether an order should be placed, and evaluate the usefulness of exploiting a return policy, with different
values.
Results of the analysis are proposed in Table 7 and graphically shown in Figure 4. As a first outcome, it can be seen
from Table 7 that, to increase the current return rate of 87%, the company should apply a relatively high return
policy, ranging from  0.79 in TO BE-1 to  1.20 in TO BE-10. This is due to the fact that the return rate is rather
high in the AS IS scenario. For the same reason, we observe that, despite the return policy decreasing the cost of
external purchase, there are no TO BE scenarios which score a lower total cost than the AS IS situation.
Consequently, the percentage variation of costs when moving from the AS IS to the TO BE scenario is always
greater than zero. Looking at Figure 4, one can also see that the total cost as a function of  first decreases then
increases, with two scenarios (i.e., TO BE-6 and TO BE-7) scoring a total cost which is close to the AS IS situation.
Besides the high  of the AS IS situation, we also conjecture that TO BE scenarios are not profitable in terms of the
total cost because of the relatively low value of assets cp compared with the logistic cost 0. The cost of new assets
being low, it is not advantageous for the company to pay a high logistic cost for increasing the return flows;
conversely, for assets having a higher economic value, increasing the return flows can be more profitable to the
company. Hence, we have investigated the sensitivity of the percentage variation of the total cost as a function of cp,

1257

International Journal of Production Research


Table 7. Results of the case study.

Scenario
AS IS
TO BE-1
TO BE-2
TO BE-3
TO BE-4
TO BE-5
TO BE-6
TO BE-7
TO BE-8
TO BE-9
TO BE-10

Cost of
return flows
[E/day]

87.00%
88.19%
90.11%
90.76%
92.23%
90.03%
93.15%
93.15%
93.25%
93.25%
93.25%

0.800
1.430
1.440
1.480
1.519
1.531
1.546
1.547
1.600
1.620
1.760

0.787
0.800
0.850
0.899
0.914
0.932
0.934
1.000
1.025
1.200

432.13
783.12
805.95
834.33
870.34
884.74
894.30
895.02
926.74
938.26
1019.41

Cost of
purchasing
[E/day]

Inventory
cost [E/day]

Total
cost [E/day]

Percentage
variation
AS IS ! TO BE

730.07
654.80
556.96
526.85
459.11
383.85
353.74
353.74
353.74
353.74
353.74

109.39
112.84
125.03
125.54
131.28
138.32
149.57
149.57
148.39
152.38
152.38

1271.60
1550.76
1487.94
1486.72
1460.74
1406.91
1397.61
1398.33
1428.87
1444.38
1525.53

21.95%
17.01%
16.92%
14.87%
10.64%
9.91%
9.97%
12.37%
13.59%
19.97%

1.560,00
TO BE-1

1.540,00
TO BE-10

1.520,00
1.500,00
1.480,00
1.460,00

TO BE-2

TO BE-3
TO BE-4
TO BE-9

1.440,00

TO BE-8

1.420,00
1.400,00
1.380,00

TO BE-5
TO BE-6

TO BE-7

Figure 4. Total cost as a function of the TO BE scenario for the case study company.

ranging from 919E/asset. The results, proposed in Table 8 and Figure 5, support our conjecture: as a matter of fact,
TO BE scenarios generate savings (i.e. a negative percentage variation of the total cost) when cp exceeds 13E/asset.
It can also be observed that, the higher the cost of assets, the more profitable the application of a return policy: for
instance, for cp 19E/asset, some TO BE scenarios generate savings which exceed 13.9% (e.g.  0.932 or
 0.934).

5. Managerial implications, conclusions and future research directions


The aim of our paper was to propose a stochastic EOQ-based analytic model for inventory management in RL
environments, with a particular focus on the case of MRS applying return policies. The model developed has some
strong points. First, it is more realistic than several works available in the literature, as it incorporates stochasticity
of demand, return fraction and lead times, which commonly affect real scenarios. Hence, we think that the
formulation proposed may serve practitioners as a theoretical framework for the implementation of EOQ policies in
RL and MRS. At the same time, the model is general, as its formulation does not require specific probability
distributions for demand, return fraction and lead times. Second, our approach is based on the estimation of a
stock-out probability to define whether an order should be placed; ultimately, it may constitute a useful instrument
to increase supply chain efficiency and control inventory levels without compromising customer satisfaction. Third,

1258

A. Alinovi et al.

Table 8. Percentage variation of the total cost as a function of  and cp for the case study company.
cp [E/asset]
Scenario
TO
TO
TO
TO
TO
TO
TO
TO
TO
TO

BE-1
BE-2
BE-3
BE-4
BE-5
BE-6
BE-7
BE-8
BE-9
BE-10

10

88.19%
90.11%
90.76%
92.23%
90.03%
93.15%
93.15%
93.25%
93.25%
93.25%

0.787
0.800
0.850
0.899
0.914
0.932
0.934
1.000
1.025
1.200

21.95%
17.01%
16.92%
14.87%
10.64%
9.91%
9.97%
12.37%
13.59%
19.97%

20.03%
14.58%
14.25%
11.77%
7.18%
6.24%
6.30%
8.55%
9.70%
15.70%

11

12

13

14

15

16

17

18

19

18.32% 16.79% 15.42% 14.18% 13.06% 12.03% 11.09% 10.22%


9.43%
12.43% 10.50% 8.77% 7.20% 5.78% 4.49%
3.30%
2.21%
1.20%
11.88% 9.76% 7.86% 6.14% 4.58% 3.15%
1.85%
0.65% 0.46%
9.02% 6.56% 4.35% 2.35% 0.54% 1.12% 2.63% 4.03% 5.31%
4.10% 1.35% 1.12% 3.35% 5.37% 7.22% 8.91% 10.47% 11.90%
2.99% 0.08% 2.53% 4.90% 7.04% 9.00% 10.79% 12.43% 13.95%
3.04% 0.13% 2.49% 4.85% 7.00% 8.96% 10.75% 12.40% 13.92%
5.17% 2.14% 0.57% 3.03% 5.26% 7.29% 9.16% 10.87% 12.45%
6.25% 3.17% 0.40% 2.10% 4.38% 6.45% 8.35% 10.09% 11.70%
11.91% 8.53% 5.49% 2.74% 0.25% 2.03% 4.11% 6.03% 7.80%

Figure 5. Percentage variation of the total cost as a function of  and cp for the case study company.

the estimation of the stock-out probability is only based on the knowledge of historical deliveries, whereas it does
not exploit return flows as input data; hence, the model is suitable to be adopted also by a company which did not
establish a proper tracking system for return flows. As regards the limitations of the model, the main one is its
complexity, which is a consequence of the need for including stochasticity in the mathematical formulation. This
could prevent its adoption in practical cases. Moreover, we should remark that our model may not be adequate for
contexts where the delivery lead time cannot be approximated as deterministic.
The model developed was investigated through simulations, and then tested by means of a case study. Results of
the simulation lead to the following considerations. First, we observed a negative effect of demand and return lead
time stochasticity on the optimal return policy, confirming that the calculation of an optimal return policy with
deterministic models would not be adequate. We may additionally deduce that stochasticity seems to make returns
less appealing for firms, although no apparent effect of return fraction stochasticity was observed. The application

International Journal of Production Research

1259

of the model to a case study, referring to the problem of assets management between a company and its customers,
highlighted some further points. First, we noted that the application of a return policy for the company examined is
not profitable compared to the existing asset management policy. This is due to the fact that the current return rate
is sufficiently high (i.e. about 87%); thus, increasing the return flows does not involve further benefits for the
company. At the same time, we found that the return policy could be profitable for assets of higher economical
value (from 1319E/asset), leading to a significant decrease of the total cost (up to 13.9%) compared with the
current scenario. The above results suggest that the application of a return policy should be carefully evaluated
according to the specific operating condition considered; the model we developed was proven to be a useful tool for
supporting such an evaluation.
Starting from the current paper, an interesting future research direction could be to develop a model considering
the availability of additional historical information, namely connections between return flows and historical
deliveries, which may apply to contexts where specific tracking systems have been implemented.

Acknowledgements
The authors wish to express their gratitude to the anonymous reviewers and to the guest editor, whose constructive suggestions
led to a significant improvement of the earlier version of the manuscript.

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Appendix
Proof of proposition 1
q
To prove Equation (9), we first introduce two new random variables, Yq
i and Yi , representing the return amounts on day i, due
to historical deliveries until day q and to future deliveries until day i, respectively. Hence, we can state that:

Yq
i

q
X

d~k 

 Zki

A1

k1

Yq
i

i
X

dk 

 Zki

A2

kq1
q
Yqi Yq
i Yi

A3

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International Journal of Production Research


Owing to the linearity properties of the expected value of random variables, we deduce:
" q
#
X
 q
 q
 q 
 q 
q 
~
dk  k  Zki
E Yi E Yi Yi E Yi E Yi E
"
E

k1

i
X

dk 

 Zki

kq1

q
X

h
E d~k 

i
i
X
 Zki
E dk 

 Zki :

A4

kq1

k1

Further simplifications for Equation (A4) can be obtained observing that d~k are deterministic and known parameters, which can
be extracted from the argument of the expected value on account of the linearity properties. Moreover, k and Zki are
independent random variables (for any k), so that the expected value of their product can be transformed into the product of
their expected values. Similar considerations can be drawn from the independence of the three random variables dk , k and Zki .
According to the definitions above, and having recognised that pki is the expected value of Zki , we obtain:
q
  X
E Yqi
d~k  E

k

 E Zki 

E dk   E

k

 E Zki 

kq1

k1
q
X

i
X

d~k    pki

k1

i
X

k    pki  

q
X
k1

kq1

i
X

d~k  pki

!
k  pki

kq1

which proves Proposition 1.

Proof of proposition 2
In order to calculate the variance of Yqi , we first use Equation (A3) and observe that Yq
and Yq
are independent, as they
i
i
represent returns on day i due to previous deliveries which occurred in disjoint time horizons (i.e. the days until and after q,
respectively). This observation allows writing the variance of the sum of the two random variables as the sum of the variances, as
follows:
q
q
q
VarYqi  VarYq
i Yi  VarYi  VarYi 

A5

VarYq
i ,

We shall continue by calculating


which is the variance of a sum of products, according to Equation (A1). All addends
are independent of one another, since deliveries fulfilled on different days will have independent future destination, and this
observation again allows writing the sum variance as a sum of variances. In addition, we can extract d~k from the variance
arguments, owing to its deterministic nature; as a result, we obtain:
" q
#
q
q
h
i X
X
X
 q 
~
dk  k  Zki
d~2  Var k  Zki 
Var
Var d~k  k  Zki
A6
Var Y
i

k1

k1

k1

We now calculate the variance of the product k  Zki , applying the general variance property, according to which
VarA E A2   E A2 , for any random variable A. We will then use the independence between k and Zki to convert the
expected value of their product into the product of their expected values: note that the independence between k and Zki implies
2
2
k and Zki to be independent too, and hence similar transformations can be operated, as follows:
Var

 Zki 2   E

2
k

 E Z2ki   E

 Zki  E
E

 Zki 2 E

2
k

 Z2ki   E

k

 E Zki 2

2
2
k  E Zki 

A7
2

By exploiting again the aforementioned variance property (this time as E A  VarA E A ), Equation (A7) can be
expressed as a function of the model parameters:
E

E Zki 2
 

Var k  E k 2  VarZki  E Zki 2
2
k

 E Z2ki   E

k 

 E k 2 E Zki 2

 2 2  pki  1  pki p2ki   2 p2ki


 2 2  pki  2 p2ki :

A8

as:
Hence, we obtain the variance of Yq
i
q
h

i

 X
d~2k   2 2  pki  2 p2ki

Var Yq
i
k1

A9

1262

A. Alinovi et al.

On the basis of a similar approach, we obtain an expression for the variance of Yq


as follows:
i
"
#
i
i
X
X


dk  k  Zki
Vardk  k  Zki 
Var
Var Yq
i
kq1

kq1

i
X
 
E dk 


 Zki 2  E dk 

 Zki 2

kq1

i
X
 
E dk 2 


Zki 2  E dk   E

k

 E Zki 2

kq1

i
X
 


E dk 2  E



 E Zki 2  E dk 2 E

2
2
k  E Zki 

kq1

i
X


 
Vardk  E dk 2  Var

k

2
k 

 

 VarZki  E Zki 2

kq1


E dk 2 E k 2 E Zki 2
i
h

i
X


 2d 2k   2 2  pki  2k 2 p2ki :

A10

kq1

Proposition 2 can be finally obtained by substituting the results of Equations (A9)(A10) in Equation (A5), which completes
proof 2.

Proof of proposition 3
In order to prove
3,P
some
covariance properties have to be applied. We first apply the bilinearity property, according
P Proposition
P
n Pm
to which Cov ni Ai , m
j Bj 
i
j CovAi , Bj , given any random variables Ai , i 1, . . . , , n and Bj , j 1, . . . , , m. Hence, we
obtain:
q
q
q
CovYqi , Yqj  CovYq
i Yi , Yj Yj 
q
q
q
q
q
q
q
CovYq
i , Yj  CovYi , Yj  CovYi , Yj  CovYi , Yj 
q
CovYq
i , Yj 

A11

q
CovYq
i , Yj 

It is immediate to observe that

0, on the basis of the independence between the variables in


brackets. In fact, Yq
and Yq
are independent because they represent returns on days i and j due to previous deliveries which
j
i
occurred in disjoint time horizons. Analogous considerations apply for Yq
and Yq
j .
i
q
q
We now calculate CovYi , Yj , being aware that, in this case, no independence assumption holds. We will firstly apply the
bilinearity property; then, we will use the property CovA, B E A  B  E A  E B, given any random variables A and B.
" q
#
q
q X
q
h
i
X
X
X
q
q
~
~
Cov d~k  k  Zki , d~h  h  Zhj
dk  k  Zki ,
dh  h  Zhj
CovY , Y  Cov
j

k1

h1

q X
q h
X

E d~k 

 Zki  d~h 

k1 h1

h
 Zhj  E d~k 

i
h
 Zki  E d~h 

 Zhj

A12

k1 h1

On the basis of the deterministic nature of d~k and d~h and of the independence between
E d~k 
E d~h 
In order to develop E d~k 

 Zki  d~k  E
~
h  Zhj  dh  E

 Zki  d~h 

 Zki  d~k  E
~
h  Zhj  dh  E
k

and Zki , we can easily obtain:

 E Zki  d~k    pki


~
h   E Zhj  dh    phj
k

 Zhj , two distinct cases have to be considered.

. Case k h: in this case, we have


E d~k 

 Zki  d~h 

 Zhj  E d~k  k  Zki  d~k  k  Zkj 


E d~2k  2k  Zki  Zkj  d~2k  E

d~2k   2 2  E Zki  Zkj 

2
k

 E Zki  Zkj 

We should remark that Zki and Zkj are not independent, according to constraint (8) implying their sum to be lower than 1.
Hence, one between Zki and Zkj should score zero, as they are binary variables and we assumed i 6 j. We therefore deduce that

1263

International Journal of Production Research


E Zki  Zkj  0 and obtain:
E d~k 

 Zki  d~h 



 Zhj 

0:

kh

. Case k 6 h: in this case, we have


E d~k 

 Zki  d~h 

 Zhj  d~k  d~h  E

k

 E

h

 E Zki   E Zhj  d~k  d~h  2  pki  phj :

q
Note that Zki and Zhj are independent when k 6 h. Finally, we can write the expression of CovYq
i , Yj  as:
q
CovYq
i , Yj 

q X
q

X
kh  d~k  d~h  2  pki  phj  d~k  d~h  2  pki  phj

A13

k1 h1

where kh is defined as binary parameter scoring 1 if k 6 h and zero otherwise. Omitting null addends, Equation (A12) can be
more simply rewritten as:
q
X

q
2
CovYq
i , Yj   

d~2k  pki  pkj

A14

k1
q
In a similar way, looking back at Equation (A11), we obtain an expression for CovYq
i , Yj , as follows:
"
#
j
i
X
X
q
dk  k  Zki ,
dh  h  Zhj
CovYq
i , Yj  Cov
kq1
j
i
X
X

hq1

Cov dk 

 Zki , dh 

 Zhj

 Zki  dh 


 Zhj  E dk 

kq1 hq1
j
i
X
X
 
E dk 


 Zki   E dh 

 Zhj



kq1 hq1

Following the same approach described before, we have to consider two further situations.
. Case k h: in this case, we have
E dk 

 Zki  dh 

 Zhj  E d2k   E

2
k

 E Zki  Zkj  0,

because E Zki  Zkj  0.


. Case k 6 h: in this case, we have
E dk 

 Zki  dh 

 Zhj  E dk   E dh   E

k

 E

h

 E Zki   E Zhj 

k  h    pki  phj :
Combining the results described above, we obtain:
minfi,jg
q
2
CovYq
i , Yj   

2k  pki  pkj

A15

kq1

Proposition 3 can be finally derived, by substituting Equations (A14A15) into Equation (A11) and omitting two null addends,
thus completing proof 3.

Proof of proposition 4
Proof for Equation (12) directly follows from Equation (2), by substituting E Yqi  with its expression derived in Equation (9) and
applying the linearity property of the expected
Proof for
(13) can be obtained applying the
P value
 ofPrandom variables.
 Equation

P P
variance property, according to which Var ni Ai ni VarAi  2 ni j5i Cov Ai , Aj , for any random variables Ai . In this
case, we have:
"qn
# qn
qn
DLT
DLT
DLT X
h
i
X
X
X
 
VarYq  Var
Yqi
Var Yqi 2
Cov Yqi , Yqj
A16
iq1

iq1

iq1 j5i

Equation (13) can now be easily obtained by substituting the expressions of Equations (10 and 11) for VarYqi  and CovYqi , Yqj 
respectively, into Equation (A16), thus completing proof 4.

1264

A. Alinovi et al.

Proof of proposition 5
To prove Proposition 5, we apply covariance bilinearity properties as follows:
"qn
# qn qn
qn
h
i
DLT
DLT
DLT X
DLT
X
X
X
di ,
Yqj
Cov di , Yqj
CovDq , Yq  Cov
iq1

qn
DLT qn
DLT
X
X

jq1

"

Cov di ,

iq1 jq1

iq1 jq1
q
X

qn
DLT qn
DLT
X
X

qn
DLT qn
DLT
X
X

 Zkj

"

Cov di ,

#
dk 

 Zkj

kq1

k1

iq1 jq1

d~k 

j
X

j
X

dk 

 Zkj

kq1

j
X


Cov di , dk 

 Zkj

A17

iq1 jq1 kq1

If i 6 k, we have Covdi , dk  k  Zkj  0, due to independence between the argument variables. Conversely, if i k, the
following calculation must be performed:
Covdi , dk 

 Zkj  E d2k  k  Zkj 




 E dk   E dk  k  Zkj   2d 2k    pkj  2k    pkj


  pkj   2d 2k  2k   pkj   2d

 Zkj  Covdk , dk 

Hence, we obtain:
CovDq , Yq 

qn
DLT
X

i
X

  pki   2d

iq1 kq1

which proves Proposition 5.

Proof of proposition 6
Proof for Equation (15) directly follows from Equation (3), applying the linearity properties of the expected value of random
variables. Equation (16) can be proved as follows:
"qn
#
"qn
#
DLT
DLT
X
X
q
q
VarU  Var
di  Yi Var
di VarYq   2  CovDq , Yq 
iq1

iq1

nDLT   2d VarYq   2  CovDq , Yq 


where we used independence among demanded quantities on different days to convert the variance of their sum into the sum of
their variances.
With regard to the distribution of the random variable Uq describing the net demand, we assert that a normal approximation
can be adopted. As a matter of fact, Uq is calculated as a linear combination, with additions and subtractions, of random
variables, some of which (i.e. demanded quantities during delivery lead time) are independent from one another. The
approximation should get better with the increasing length of the delivery lead time, as a consequence of an increase in the
number of summed addends. Moreover, we can say that the addends representing quantities to be returned, i.e. Yqi , are
themselves sums of other random variables as from their definition in Equations (A1A3), so that the number of addends results
to be quite larger than what one could firstly figure out. Finally, in various contexts, the daily demand itself can be correctly
approximated with a normal distribution, since demand is the result of a sum of random variables, which are the daily customers
purchase decisions and this should contribute to improve the approximation. This completes proof 6.

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