Production planning with inventory-based financing

Abstract

This paper uses a mixed integer programming model to study a production and inventory planning problem faced by a manufacturer who utilizes Inventory-Based Financing (IBF) to capture additional demands during peak seasons that otherwise will not be met due to a shortage of working capital. By exploiting the problem's inherent structure of three distinct but related manufacturer decisions, i.e., the production, financing and working capital allocation decisions, the paper develops a branch-and-bound procedure to solve the model which is shown to be NP-hard. Through a series of numerical experiments, our study provides a number of interesting managerial insights into how the manufacturer's optimal production and inventory plans could differ with and without IBF. Specifically, we find that (a) the manufacturer would strategically overstock his inventory for the purpose of securing more loans, and this overstocking behavior is more acute in periods immediately prior to the peak demand period; and (b) the manufacturer could take advantage of the difference in peak and non-peak seasons of product demands by partially financing the production of one product through pledging the cycle inventory of another product.