The Newsvendor Model

How a leading sportswear manufacturer trades off the cost of having too much against the cost of having too little

In this consulting project, I advised the CEO of one of the worldwide leading sportswear manufacturers by applying the Newsvendor Model on how to calculate the optimal order quantity for a single-period product, sunglasses, to mitigate product underages or overages.

The CEO the worldwide leading sportswear manufacturer is investing to expand its product portfolio. The CEO wants her customers to purchase custom-made sunglasses with the sportswear manufacturer logo. These will be sold to customers at the affordable price of $30.

Wishing to capitalise on the idea, several founded a start-up, aiming to supply sunglasses for sportswear brands. Their goal is to demonstrate the concept at the sportswear manufacturer before rolling out to other sportswear manufacturers that start similar expansion programmes.

The sportswear manufacturer decided to support the Founders, who have already lined up investors, booked production capacity with a reputable manufacturer, come up with interesting designs, and put together an impressive business plan. The sportswear manufacturer expect that demand for sunglasses will have a mean of 3,000 units in any given year, with a standard deviation of 1,200 units. They have shared their forecast with the start-up.

The start-up’s production cost is $6 per unit. The Founders are split about which offer to make the sportswear manufacturer. Those favouring simplicity are suggesting Option 1, those favouring a more elaborate approach are suggesting Option 2:

Option 1. The start-up offers a simple wholesale price of $18 for each unit. In this case, the sportswear manufacturer will dispose of...

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