Optimal Inventory Strategies for Managing Shortages through Substitution of High- and Low-Quality Products with Lead Time Risk

Inventory management in supply chains is increasingly challenged by lead time volatility and the need for effective substitution strategies, especially in regional marketplaces where supply disruptions are more frequent. This study develops a single-period inventory model involving high-quality and low-quality substitutable products, where high-quality items face dominant demand. The model addresses supply disruption risks and incorporates key factors such as substitution rates, demand proportions, shortage timing (before cycle end or before replenishment), and profit-related parameters. Numerical analysis evaluates the impact of parameters such as, holding cost, substitution rate, demand level, shortage cost, and profit margin on total cost components. Results reveal that total cost is minimized when optimal substitution strategies are implemented, especially under high substitution rates and moderate holding or shortage costs. Substitution before replenishment consistently yields higher costs than substitution before cycle ends, indicating the advantage of early intervention. Sensitivity analysis shows the model’s robustness across various operational scenarios. The findings underscore the importance of integrating substitution and lead time risk to reduce lost sales and enhance cost efficiency. This study offers practical guidance for industries facing demand uncertainty and frequent supply disruptions, helping managers design resilient and cost-effective inventory policies.