ISM 4330: Information System & Operation Management Strategy

Instructor: Yinliang (Ricky) Tan

Assignment 1

1. The Penn Bookstore sells several magazines. A single stocking quantity is ordered for each issue. When a
new issue arrives, any remaining copies of the old issue are returned to the publisher. If a magazine sells
out, then it remains unavailable until the next issue arrives.
Consider the following data on Bits and Bytes magazine at the Penn Bookstore:
Table 1. Data on Bits and Bytes magazine at the Penn Bookstore

The forecast column lists their forecast of demand for that issue (when they ordered copies for that issue).
It is generated by an internal computer system that accounts for seasonality and other events in the store
(which is why the forecast varies from issue to issue). The quantity column is the actual number of issues
stocked that week and the sales column provides the number of units actually sold. The estimated demand
column provides an estimate of what sales could have been had there been no stock-outs. (If sales is less
than or equal to the order quantity, the estimated demand equals sales, otherwise it can be greater.)

The system forecasts that week 37 demand at this location will be for 25 copies. Suppose they were to
choose a normal distribution to represent demand in week 37. What mean and standard deviation should
they choose? (20pts)
Solutions:
= Expected A/F x forecast = 1.08 x 25 = 27
= Standard deviation A/F x forecast = 0.38 x 25 = 9.5

2. Goop Inc. needs to order a raw material to make a special polymer. The demand for the polymer is
forecasted to be normally distributed with a mean of 250 gallons and a standard deviation of 125 gallons.
Goop sells the polymer for $25 per gallon. Goops purchases raw material for $10 per gallon and Goop
must spend $5 per gallon to dispose of all unused raw material due to government regulations. (One
gallon of raw material yields one gallon of polymer.) If demand is more than Goop can make, then Goop
sells only what they made and the rest of demand is lost. (40pts)
a. Suppose Good purchases 150 gallons of raw material. What is the probability that they will run out of raw
material? (8pts)
b. Suppose Goop purchases 300 gallons of raw material. How many gallons of demand on average would
remain unfulfilled? (8pts)
c. Suppose Goop purchases 400 gallons of raw material. How much should they expect to spend on disposal
costs (in $s)? (8pts)
d. Suppose Goop wants to ensure that there is a 92% probability that they will be able to satisfy the
customers entire demand. How many gallons of the raw material should they purchase? (8pts)
e. How many gallons should Goop purchase to maximize its expected profit? (8pts)

Solutions:
a. z = (150 250)/125=-0.8. From the Distribution Function Table, F(-0.8) = 21.2%. They will run out of
raw material if demand exceeds this quantity, which has a 1-21.2% = 78.8% change
b. z = (300 250)/125=0.4. From the loss function table, L(0.4) = 0.2304. Lost Sales = sigma x L(z) =
28.8.
c. z = (400 250)/125=1.20. Lost Sales = sigma x L(1.20) =7.01. Expected Sales = mu Lost Sales =
250 7.01 =243. Expected left over inventory = Q Expected Sales = 400 243 = 157. Disposal cost =
$5 x 157 = $785
d. Lookup 0.92 in the Distribution function table and we find that z = 1.41. Convert to an order quantity
Q = 250 + 1.41 x 125 = 426

e. The underage cost is $25 - $10 = $15. The overage cost is $10 + $5 = $15. The critical ratio
is 0.5, z = 0, Q = 250

3. (Teddy Bower Parkas) Teddy Bower is an outdoor clothing and accessories chain that purchase a
line of parkas at $10 each from its Asian supplier, TeddySports. Unfortunately, at the time of
order placement, demand is still uncertain. Teddy Bower forecasts that its demand is normally
distributed with mean of 2,100 and standard deviation of 1,200. Teddy Bower sells these parkas
at $22 each. Unsold parkas have little salvage value: Teddy Bower simply gives them away to a
charity. (40pts)
a) What is the probability this parka turns out to be a dog, defined as a product that sells less
than half of the forecast? (8pts)
b) How many parkas should Teddy Bower buy from TeddySports to maximize expected profit?
(8pts)

c) If Teddy Bower wishes to ensure a 98.5 percent in-stock probability, how many parkas
should it order? (8pts)
For parts d and e, assume Teddy Bower orders 3,000 parkas.
d) Evaluate Teddy Bowers expected profit. (8pts)
e) Evaluate Teddy Bowers stock-out probability. (8pts)

Solutions:
a) The parka sells less than half of the forecast if demand is 2100/2 = 1050 or fewer units. Normalize the
quantity 1050: z =(1050 2100)/1200= -0.88. From the
Standard Normal Distribution Function Table, (-0.88) =0.1894 , which implies there is a 18.9%
probability that the parka will be a dog.
b) To determine the profit maximizing order quantity, begin with the underage cost,
Cu =22 - 10 = 12, and the overage cost, C o =10 - 0 = 10. The critical ratio is 12/ (10 + 12) =
0.5455. We see from the Standard Normal Distribution Function Table that (0.11) =0.5438 and
(0.12) =0.5478, so we choose z= 0.12 . Convert that z-statistic back into an order quantity, Q = +z* =
2100 + 0.12*1200= 2,244.

c) To hit the target in-stock probability of 98.5%, we need to find the z-statistic such that
(z) = 0.9850 . We see from the Standard Normal Distribution Function Table that
(2.17) =0.9850 , so we choose z =2.17 . Convert to Q: Q = 2100 + 2.17 * 1200 = 4704.
d) If 3000 parkas are ordered then the corresponding z-statistic is (3000 - 2100) /1200 = 0.75. Now look
up expected lost sales with the Standard Normal distribution in the Standard Normal Loss Function
Table: L(0.75) = 0.1312 . Convert that lost sales into the expected lost sales with the actual demand
distribution: * L(z) = 1200* 0.1312 = 157.4 . Expected sales = expected demand expected lost
sales = 2100-157.4 = 1942.6. Expected left over inventory = 3000 1942.6 = 1057.4. Finally,
Expected profit = (22-10)*1942.6-(10-0)*1057.4=12,737
e) The stock out probability is 1- (z) = 1- (0.75)= 22.7%