The Effect of Estimation Risk in Establishing Safety Stock Levels in an Inventory Model

This article illustrates the impact of estimation risk on decisions involving a one-period inventory problem such as the Christmas-tree stocking problem. It is shown that when estimation risk is ignored, stock levels may be incorrectly compiled and service levels may be inadequate. This article describes a regression-based method which adjusts the size of the stock by incorporating an additional safety stock requirement which reflects the uncertainty associated with lack of precise knowledge of the true parameters.