Transportation Research Part B 45 (2011) 1266–1283

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Transportation Research Part B

journal homepage: www.elsevier.com/locate/trb

Strategies for customer service level protection under multi-echelon

supply chain disruption risk
Amanda J. Schmitt ⇑
Center for Transportation and Logistics, Massachusetts Institute of Technology, 77 Massachusetts Ave., E40-266 Cambridge, MA 02140, USA

a r t i c l e i n f o a b s t r a c t

Keywords: We model a multi-echelon system where disruptions can occur at any stage and evaluate
Supply chain disruptions multiple strategies for protecting customer service if a disruption should occur. The strat-
Multi-echelon inventory management egies considered take advantage of the network itself and include satisfying demand from
Risk mitigation
an alternate location in the network, procuring material or transportation from an alter-
Partial lost sales
nate source or route, and holding strategic inventory reserves throughout the network.
Unmet demand is modeled using a mix of backordering and lost sales. We conduct numer-
ical analysis and provide recommendations on selecting strategic mitigation methods to
diminish the impact of disruptions on customer service. We demonstrate that the greatest
service level improvements can be made by providing both proactive inventory placement
to cover short disruptions or the start of long disruptions, and reactive back-up methods to
help the supply chain recover after long or permanent disruptions.
 2011 Elsevier Ltd. All rights reserved.

1. Introduction

In today’s growing supply chains, disruptions are a fact of life. The larger a supply chain, the more difficult it is to cope
with uncertainty, both upstream and downstream, and protect every link. In this paper, we focus on a firm who is aware of
the risks of disruption in their supply chain and is considering different strategies for coping with that risk. We model ways
the firm can take advantage of elements of its own network to protect against those disruptions. This multi-echelon model
provides managers with quantitative guidance on what mitigation strategies are effective for risks in their network. Such
quantitative models allow risk mitigation decisions to be made while considering the network as a whole, enabling the best
protection for the supply chain overall.
Having back-up procedures in place and able to be quickly implemented can significantly reduce the impact of a disrup-
tion. For instance, the Beijing Olympics caused shortages in supply from suppliers and plants located in China, even though
the event had been planned for years. One logistics provider for a fast-food firm that we spoke with indicated they faced
shortages in plastic gloves due to government restrictions that forced a plant shut-down, despite the indications that the
supplier had given that there would be no shortage of supply. Thankfully, they were able to procure enough gloves from
alternate suppliers and expedite shipping via air to ensure glove availability for their US-based client. Without this back-
up logistics plan, their client’s restaurants in the US would either have had to cut back on the volume of service provided
to the customer (which was not considered acceptable), or purchase far more expensive gloves from a spot market if any
could be found. This back-up transportation method was only effective because an alternate gloves supplier was available
and the back-up procedures were in place. We focus on having such back-up response plans and the time it takes to initiate
them in this paper.

⇑ Tel.: +1 215 594 4435; fax: +1 215 796 6435.

E-mail address: aschmitt@mit.edu

0191-2615/$ - see front matter  2011 Elsevier Ltd. All rights reserved.
doi:10.1016/j.trb.2011.02.008
 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1267

We also focus on the variable nature of consumer behavior. Complete backordering is not always a reasonable assump-
tion; consider the fast-food example given, and suppose a complete disruption of glove supply had occurred for the logistics
provider. Some backordering by the restaurants could be expected as they use up their own inventory of gloves. However,
food consumers could not be expected to backorder much of their demand (if any), so if a restaurant ran out of gloves com-
pletely then most additional glove demand would become lost sales. We incorporate a stochastic mixture of backordering
and lost sales in our model to capture some of the complexity of customer behavior.
The firm in this model is ultimately concerned with the expected service level to the customer, or what percentage of
sales are not lost. Most inventory models, including those focusing on supply chain disruptions, model the costs involved
with given policies and optimize to reduce those costs. We take a different approach, modeling the expected service level
for different strategies, and comparing those strategies for effectiveness in mitigating disruption risk. While we recognize
that costs factor into choosing between strategies, the goal of our model is to show which types of back-up strategies are
effective for different types and locations of disruptions in the system, so that a manager can make an informed decision
if they are considering between mitigation options.
This modeling decision is motivated by conversations with firms who do not clearly quantify penalty costs, but do ulti-
mately mandate a minimum service level for their customers. A firm operating in a market where customer loyalty is part of
the marketing plan (such as food brands, hygiene products, etc.), or where failing to meet demand has significant impact to
the firm’s reputation (such as medical products), must prioritize customers and design their supply chain accordingly. For
example, Genentech is a large pharmaceutical firm who is the only manufacturer of a certain cancer medication. They feel
an ethical responsibility to ensure that their supply chain will never fail to have that product available, since it is vital to
patient care. Not only would their image be severely tainted if a shortage occurred, but there could be a resulting loss of hu-
man life. Thus Genentech stocks months’ worth of strategic inventory reserves in order to ensure that even if a disruption
occurs, they can still meet their requisite customer service levels (Steckel, 2008). Other firms, such as those in consumer
product manufacturing, recognize that if a customer switches brands because material is not available on the shelf, they
may be lost for good. These firms recognize that inventory costs money, but are willing to invest in inventory and redun-
dancy in their supply chains in order to protect customer service.
In this paper we model a multi-echelon system where disruptions can occur at any link or transportation arc in the
supply chain. This analytical model was largely motivated by our work with a large consumer packaged goods firm to
model disruptions and response in their network; we developed a simulation model during that research and generalized
much of the system and analysis to develop the model in this paper. We consider multiple strategies for protecting cus-
tomer service. These include holding extra periods’ worth of demand at distribution centers, backing up service from spe-
cific distribution centers if a disruption should occur there, and backing up the actual manufacturing plants or
transportation sources. We discuss the logic and timing involved in each of these strategies and show their impact to
customer service levels. We conduct numeric evaluations of the strategies to show which may be preferred under various
conditions.
The remainder of the paper is outlined as follows: In Section 2 we review relevant literature for the topic. We provide
background on the model, formulate the service levels, and extend the model to additional echelons in Sections 3–5. We per-
form numerical evaluations and compare strategies in Section 6 and summarize our conclusions in Section 7.

2. Literature

There is a growing body of literature addressing supply chain management in the face of disruptions. In addition to the
standard inventory considerations of cycle stock (a quantity ordered each period to cover regular demand) and safety stock
(a quantity ordered to cover stochasticity, usually in demand), we consider a third type of inventory: strategic inventory re-
serves. Sheffi (2001) refers to this as just-in-case inventory, and indicates that use of this inventory policy grew after the 9/11
terrorist attacks as global firms began to understand the drastic impact that disruptions can have on their supply chains.
While both safety stock and strategic reserves are designed to cope with uncertainty, we separate them conceptually since
they deal with different sources of uncertainty.
Many single-echelon models address the quantities of inventory which should be held in order to protect against disrup-
tion risk. Tomlin (2006) shows that when demand is deterministic and only a single unreliable supplier is present, the opti-
mal base-stock level should be set so that the probability of a disruption at that supplier lasting longer than back-up
p
inventory is less than 1  pþh , where p and h represent the penalty and holding costs, respectively. Güllü et al. (1997) produce
a similar result for a finite time-horizon and dynamic demand when the supplier is subject to Bernoulli disruptions. Schmitt
et al. (2010) develop an approximation for this optimal base-stock quantity when demand is stochastic based on that target
optimal service level.
Tomlin (2006) also considers a back-up supplier in his model and indicates that either inventory or supplier back-up
should be used, but not both. In our model, we will consider both inventory and back-up strategies, but we include a delay
until the back-up source can be acted upon. We show that this the makes using both strategies appealing in certain cases.
Advanced warning of disruptions could be used to reduce the delay until a back-up strategy can be acted upon. Snyder
and Tomlin (2008) develop a model where inventory levels can be adjusted prior to a disruption in order to afford better
disruptions. They advocate developing a threat-advisory system and planning responses based on the state of the system.
1268 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

While literature on single-echelon models with supply disruptions included has become prevalent, not many papers ad-
dress multi-echelon systems as we do in this paper. We discuss those that do in Section 2.1. We also explore the impact of
customer behavior on system performance in this paper, so we present literature discussing mixed backordering and lost
sales in Section 2.2.

2.1. Multi-echelon supply chain disruption models

The simplest multi-echelon system is a two-stage serial system, which Bollapragada et al. (2004b) examine in their mod-
el. They consider uncertain lead times due to capacitated supply, and focus on service levels throughout the network. They
stress that firms should not assume that internal service levels between stages should be set to the same level as required
external service levels. Qi et al. (2009) also examine a two-stage serial system. They only allow for inventory to be held at the
lower echelon, but allow for disruptions at either location, and they develop a closed-form solution for an approximate cost
function. Bollapragada et al. (2004a) examine a 2-stage assembly system. They show how their assembly system can be re-
duced to a serial-system model and focus on solving for optimal internal and external service levels. DeCroix (2008) also con-
siders an assembly system where component suppliers may be disrupted and solves for optimal ordering policies given the
state of the supplier. He shows that despite the need to balance inventories, simultaneous disruptions at more than one com-
ponent supplier lead to higher costs.
Snyder and Shen (2006) compare stochastic demand and supply disruptions in many different networks using simulation
models. They show that the two different sources of uncertainty can lead to significantly different strategic decisions for net-
work design and/or inventory placement. Schmitt et al. (2011) formulate one of Snyder and Shen’s models in closed form,
modeling inventory placement in a system with both stochastic demand and supply disruptions, where inventory may be
either centralized in a single warehouse or decentralized in multiple warehouses. They quantify the impact that disruptions
and stochastic demand have on both expected costs and cost variance, and compare the risk pooling effect and risk diver-
sification effect; risk pooling reduces costs through centralizing inventory, whereas risk diversification allows for lower
spikes in cost (lower variance) if inventory is decentralized. Similarly, Bulut and Snyder (2009) consider a one-warehouse
multiple-retailer (OWMR) system with disruptions at either the central warehouse or decentralized retailers, but they allow
for inventory to be held at either level and solve for optimal base-stock levels at both echelons.
Multi-echelon facility location models have been developed to incorporate disruptions, and some model back-up of some
DCs by others in the network, as we consider here. Snyder et al. (2006) present a review of such literature. Those models
differ from ours in that they solve for optimal network design, whereas we assume a fixed location for the facilities in
our system, but a variable response time based on back-up strategies selected and investments made.
Hopp and Liu (2006) model a multi-echelon assembly system where disruptions may occur at any stage. To our knowl-
edge, theirs is the only paper aside from this one to consider analytical inventory modeling where disruptions can occur in
more than two echelons. They consider strategic inventory and back-up capacity protection to mitigate the impact of disrup-
tions, which is essentially equivalent to two of our four strategies. However, the supply chain structures differ in our two
models; Hopp and Yin consider an assembly system, and they allow disrupted facilities to use any inventory they have
on hand, preserving network flow. We consider a general network that can be reduced to a serial system plus a distribution
system and assume that a disruption at any location means a complete interruption, halting product flow through that loca-
tion. Hopp and Yin’s numerical analysis shows that inventory should typically be held at only a single node in a single path to
the customer, and that a basic cost-benefit analysis should be conducted to decide on capacity back-up of a single node.

2.2. Partial lost sales

Most models incorporating partial lost sales include a simple decision at the time a customer arrives to the system and
discovers a shortage: a fixed percentage is lost immediately, and the rest are backordered indefinitely. Montgomery et al.
(1973) established this approach using an EOQ model. Kim and Park (1985) also consider a continuous-review model with
partial lost sales, but formulate the costs to depend on time; the cost of each unit backordered depends on the backorder
duration. Padmanabhan and Vrat (1990) also consider time in their partial-lost-sales model. In their model, the volume lost
depends on the current level backordered; in effect, the fraction backordered increases with the length of a shortage. Chu
et al. (2004) analyze the optimality condition for Padmanabhan and Vrat’s model and observe that time is an important back-
ordering concern that companies should consider to maintain competitiveness.
Partial lost sales have not been modeled extensively in supply disruption literature. Arreola-Risa and DeCroix (1998) con-
sider this property, modeling a single-echelon system with stochastic demand and a single supplier subject to disruptions,
where a fraction of customers may backorder and another fraction will be lost sales. They indicate that the optimal inventory
reorder point and order-up-to-level are not greatly impacted much by changes in the customer backorder fraction. The
parameters are more dependent on the relative costs of backorders versus lost sales. DeCroix and Arreola-Risa (1998) expand
on this and discuss offering customer incentives to encourage backordering. They make the backordering component of the
cost function a decision variable, where the number of customers willing to backorder is assumed to be nondecreasing with
the backordering cost per unit and cost per unit per time.
The relevance of considering a mix of backordering and lost sales is clear from marketing studies on consumer behavior.
Studies typically focus on consumer reactions to stock-outs at a single store, as opposed to focusing on an individual product.
 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1269

These studies classify consumer behavior in three ways, labeled SDL: when faced with a stock-out, consumers either Sub-
stitute (purchase a different brand of the same product), Delay (essentially backordering their demand for their next visit),
or Leave (depart the store). Zinn and Liu (2001) conducted a study in a retail environment where they found the percentage
of Substituting, Delaying, and Leaving customers to be 62.0%, 15.5%, and 22.9%, respectively. They summarize results from
four similar studies and indicate that there is a lack of convergence of these numbers across studies, though the percentage
of consumers who delay their purchase was consistently between 15% and 30%. From a product standpoint, this can be inter-
preted as 15–30% backordering and 70–85% lost sales, meaning an assumption of full backordering or full lost sales may be
invalid.
One marketing study did focus on a particular type of product and studied the long-term impact of stock-outs; Straughn
(1991) tracked the effect stock-outs have on candy-bar sales. She indicates that the short-term effect on market share was
negligible, but that long-term effect (stock-outs exceeding 5 weeks) did have a significant effect, with an average loss of mar-
ket share of 10%.
These studies show that the impact of lost sales can be farther reaching than the immediate missed profit. A disruption in
supply can cause long-term damage to a firm’s brand image and to its customer loyalty. Therefore when mitigation strategies
are available, they are clearly worth investigating. The studies also suggest that customer behavior cannot always be mod-
eled with a fixed portion of customers backordering indefinitely, since time is a factor in the loss of customer sales and loy-
alty. We incorporate this in our model, modeling customer behavior using partial backordering, where the time a customer is
willing to wait is stochastically distributed. To our knowledge, ours is the first paper to employ such a general distribution for
customer behavior in an inventory model.

3. Model background

We consider a multi-echelon system where disruptions may occur at any level. We construct our formulations by focusing
on a two-echelon system initially, which we will expand to consider multiple echelons and transportation arcs in Section 5.

3.1. Network description

We first model a system with a single plant or warehouse which serves multiple retailers or distribution centers, DCs.
Each DC may carry its own differentiated product (e.g. different language labels for different regions or countries), or they
could all carry the same product, and all operate using the same period length for a periodic-review ordering policy. Since
we seek to study strategic inventory meant to cope with disruptions and not regular stochasticity of demand, we model de-
mand as deterministic and focus on the additional emergency reserve stock that may be held in the system (in increments of
periodic demand) to protect against disruptions of one or multiple complete periods.
We calculate the expected service level as one minus the expected percentage of lost sales. We assume that even though
each DC may not carry identical products, the weights of missing any product type at any DC are equal for this calculation.
In order to capture the complexities of customer behavior, we employ a stochastic function for the fraction of lost sales
based on amount of time backordered. This stochastic approach is primarily motivated by conversations with operations and
marketing personnel in the consumer packaged goods industry, and by the marketing literature discussed in Section 2.2.
Most partial sales models include a lost fraction of sales at time 1 (the first period that customers arrive and observe a short-
age); we capture this fraction as x(1). However we do not assume customers who choose to backorder do so indefinitely. We
use x(t) to represent the fraction of original demand lost when that demand has been backordered for t periods. Thus x(t) is
P
the probability mass function for our lost-sales function, and we denote XðtÞ ¼ tx¼1 xðxÞ.
When disruptions occur in the model, they last an integer number of periods and occur independently. The state of any
location in the system is defined as the number of consecutively disrupted periods that it has experienced. For example, a
state of 0 for a location indicates that it is not disrupted, and a state of t indicates that is has been disrupted for t consecutive
periods. We make the simplifying assumption that the probability of a disruption occurring at more than one echelon in the
same branch of the supply chain simultaneously is negligible, and that after a disruption the system returns to steady-state
(with all inventory reserves replenished) prior to another disruption’s occurrence. Hopp and Liu (2006) make this steady-
state assumption and justify it numerically. This assumption simplifies calculations in that when a disruption ends, the flow
of material to a customer can be immediately restarted on that branch of the supply chain. Most disruptions that completely
shut down a link in a supply chain are rare enough for this to be a very reasonable assumption (although, while rare, we
demonstrate in this paper that they are still worth mitigating!). We do not assume that disruptions cannot simultaneously
occur at multiple stages within a given echelon, i.e. multiple DCs.
We also assume that lead times between facilities are equal to zero, though the model could be modified to include deter-
ministic lead times relatively easily as long as those lead times could not be shortened in the case of a disruption. We discuss
including disruptions to the actual transportation modes between facilities in our extension to multiple echelons in Section
5.
We assume there are n DCs in the system, but that each is not necessarily identical; each has their own demand (Dj), dis-
ruption distribution (Fj(t)), and customer lost sales behavior (Xj(t)). The total demand in the system is denoted as D, where
P
D ¼ nj¼1 Dj . The plant has its own disruption distribution, G(t).
1270 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

We consider four strategies to mitigate disruption risk in this system, focusing on utilizing resources and locations that
may already exist in the firm’s entire network. These strategies are based on supply chain modeling conversations with
industry representatives. The four strategies listed here (with shortened names for reference in parentheses):

1. Holding back-up inventory reserves at the DCs (decentralized inventory back-up).

2. Holding back-up inventory reserves for transshipment to all DCs at a strategic DC (centralized inventory back-up).
3. Using a strategic DC to back-up customer service at all other DCs (DC service back-up).
4. Using another plant in the firm’s network to back-up the primary plant (upstream back-up).

Strategies 1 and 2, involving holding strategically-placed inventory, can be considered fully proactive; these are measures
that are undertaken in advance of a disruption in order to reduce the negative impact of a disruption to the customer. Strat-
egies 3 and 4, involving strategic back-up capabilities, or substituting one node of the supply chain for another, are reactive;
while they require proactive planning to put in place, no action is taken until a disruption occurs.
Fig. 1 depicts the regular flow of the network for n DCs as well as the alternate flow for Strategies 2–4. For Strategy 1, the
flow would not change; DCs would satisfy their own customers directly from their inventory reserves with no time delay.
The flow would change for Strategy 2, since the strategic DC would transship the material to other DCs, but we assume
the time for this to be initiated is negligible. We assume a disruption at a DC means that Strategy 1 or 2 cannot be used, since
a disruption means that facility cannot function and no material can flow from it. We model a delay before Strategies 3 or 4
could be implemented. Strategy 3 does not entail holding inventory at the back-up DC (Strategy 2 covers that option, though
both could be implemented together); under Strategy 3, the back-up DC serves as a re-routing option for all other DCs’ cus-
tomers. We formulate the expected service level for use of one or more of these strategies in Section 4.

3.2. Parameters

The primary objective of the model is to quantify the service level improvement available from several strategic invest-
ment options. The variables that we assume the firm can control or affect are Ij, Iv, v, and w, and we summarize the notation
for the system in Table 1. Ij is the integer number of periods’ worth of demand that each DCj holds as a strategic reserve for its
own customers (Ij is not necessarily identical for all j), and Iv is the integer number of periods’ worth of the entire system’s
demand held in strategic reserve at the back-up DC. We assume that the Iv periods’ worth of inventory is split into dedicated
quantities for each DCj and cannot be shared, either because the product is unique at each DC or because each DC requires its

Regular Flow DC1 DC1 Customers Strategy 2 Flow DC1 DC1 Customers

DC2 DC2 Customers DC2 DC2 Customers

Plant Plant

DCn DCn Customers DCn DCn Customers

Strategy 3 Flow DC1 Strategy 4 Flow DC1 DC1 Customers

DC1 Customers

DC2 DC2 Customers Plant DC2 DC2 Customers

Plant

DCn DCn Customers Back-up Plant DCn DCn Customers

Fig. 1. Network flow before or during disruptions.

 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1271

Table 1
Model notation.

Notation Definition
n Number of DCs in the system
t Index representing being in a state with t disrupted periods in a row
j Index representing location j
Dj Per-period demand at DC j
xj(t) Fraction of an order at location j which will be lost after waiting t periods (pdf)
Xj(t) Fraction of an order at location j which will be lost after waiting 6t periods (cdf)
fj(t) Probability of being in a state with t consecutively disrupted periods at DC j
Fj(t) Cumulative probability of being disrupted 6t periods at DC j
g(t) Probability of the plant being in a state with t consecutively disrupted periods
G(t) Cumulative probability of the plant being disrupted 6 t periods
D Total system demand per period
I Total number of periods’ worth of demand of back-up inventory in the system
L Lost sales in a given period
B Backordered demand in a given period
S Service level for the system in a given period
c Minimum long-term system service level
Ij Number of periods of back-up inventory kept at location j
Iv Number of periods of back-up inventory kept at a strategic back-up DC
v Response time for a strategic back-up DC
w Response time for a back-up plant

own strategic reserves (note that if sharing were permissable, Iv periods of inventory would provide more even more service
level protection than our model captures because of the benefits of risk pooling). We restrict all decision variables to be inte-
gers in order to formulate our summations in terms of complete periods.
v captures the number of periods required before a back-up DC can begin to serve a disrupted DC’s customers, and w
captures the same for a back-up plant to respond with material flow if the primary plant is down. We assume that the firm
can invest time, equipment, and funds to improve these response times, thus we include them as decision variables.
The system is constrained by its required service level, c. We define service as the percentage of sales not lost in a given
period, or S ¼ 1  DL . We use E[] to denote the expectation of a random variable, and have the following expectation for S:
E½L
E½S ¼ 1  : ð1Þ
D
The expectation for S and L will be derived throughout Section 4. While backordered demand does not factor into this equa-
tion, minimizing lost sales increases demand satisfaction, which will inherently minimize backorders as well for most cus-
tomer patterns. For completeness, we formulate the expected backordered quantities in Section 4.4. Note that our definition
of service level is not equal to fill rate, which can be defined as the percentage of demand satisfied immediately from stock.
However, if fill rate is the desired output, our model can be used to calculate it by setting xj(1) equal to 1 for all j; then the
service level calculated would actually be the fill rate.

3.3. Costs

The total target periods’ worth of back-up inventory in the system, I, is the sum of the number of periods of back-up
inventory held at each individual DC, plus the number of periods of inventory held by the back-up DC under Strategy 2.
The actual inventory on hand would be 6I periods’ worth of demand depending on how much of the I periods of back-up
inventory were used to satisfy demand during a disruption. Following Bollapragada et al. (2004a), we assume that higher
target inventory levels correspond to higher inventory costs; thus a firm seeking to minimize inventory costs should seek
to minimize I. We have the following expression for I:
X
1
I ¼ Iv D þ I j Dj : ð2Þ
j¼1

The problem can be formulated as an optimization model, where investment costs should be minimized subject to the ser-
vice level constraint. We use C(x) to denote the cost of using a decision variable equal to a value of x (where I captures both
decision variables Ij and Iv). Thus the cost-minimization problem is as follows:

minimize CðIÞ þ CðvÞ þ CðwÞ; ð3Þ

subject to E½S P c: ð4Þ

We assume that C(I) would be linear in terms of an inventory holding cost at each location. C(v) and C(w) could be complex
functions, involving a fixed cost to implement an option and a variable cost to reduce the response time. For example, in the
scenario described in the introduction, the logistics provider invested fixed costs to have alternate supply sources for gloves
available, and variable costs to expedite shipping by using air transportation instead of ships.
1272 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

We do not seek to quantify the costs of mitigation directly, assuming that a firm evaluating this decision would develop
that data internally with input from their finance department, and that costs would vary greatly for different firms, networks,
and specific strategies. However, we do seek to quantify the impact that different values for Ij, Iv, v, and w can have on the
service level. We formulate that impact in the following section.

4. Service levels

In order to formulate the expected service level, we need to formulate the expected lost sales, E[L]. If no mitigation strat-
egies are used, then a DC will stock out immediately when a disruption occurs either at the plant or at that DC. The amount
that a given DC will stock out will be Djxj(1) in the first period of a disruption, Djxj(1) + Djxj(2) = DjXj(2) in the second per-
iod of a disruption, and so on. Following this pattern, we have the following expression for the lost sales at DC j after t con-
secutively disrupted periods:
8
> Dj xj ð1Þ; t ¼ 1;
>
>
< D x ð1Þ þ D x ð2Þ ¼ D X ð2Þ; t ¼ 2;
j j j j j j
Lj ðtÞ ¼ ¼ Dj Xj ðtÞ ð5Þ
> Dj xj ð1Þ þ Dj xj ð2Þ þ Dj xj ð3Þ ¼ Dj Xj ð3Þ;
> t ¼ 3;
>
:
...; ...
The total lost sales for the network is the sum of the lost sales at each individual DC. As explained in Section 3, we assume
that simultaneous disruptions at multiple echelons are rare enough to be negligible; therefore we can add the probabilities
that either echelon experiences a disruption of t periods in our formulation. Thus the expected lost sales for the system if no
strategies are employed can be written as follows (we use the subscript 0 to denote that no strategies are used):
X
n X
1
E0 ½L ¼ Dj Xj ðtÞðfj ðtÞ þ gðtÞÞ: ð6Þ
j¼1 t¼1

If mitigation strategies are employed, then the expected lost sales can be reduced. The losses are impacted by the decision
variables, which correspond to the four strategies considered: periods’ worth of back-up inventory (Ij) at each DC, periods’
worth of back-up inventory (Iv) at a strategic DC, back-up service (after v periods) for the DCs by that strategic DC, and/or
use of a back-up plant service (after w periods). We focus on the impact of these decision variables on the expected lost sales
due to disruptions at the plant, denoted E[L{P}], in Section 4.1, and due to disruptions at the DCs, denoted E[L{DC}], in Section
4.2. We then combine them to formulate the total expected service in Section 4.3.

4.1. Losses due to disruptions at the plant

Holding back-up inventory downstream is a clear way to mitigate disruptions upstream, making Strategy 1 logical. A dis-
ruption will only cause lost sales at each DC if the disruption outlasts the back-up inventory. Therefore, the expected lost
sales due to a disruption at the plant when only Strategy 1 is used can be formulated as follows:
X
n X
1
E1 ½LfPg ¼ Dj Xj ðtÞgðt þ Ij Þ: ð7Þ
j¼1 t¼1

Under Strategy 2, DCs may be backed up by a separate DC. W.l.o.g. we call this location DCn. We assume DCn carries both its
own back-up inventory as well as back-up inventory for the whole system; thus its total inventory on hand is InDn + IvD. We
also assume that no delay would occur between a disruption occurring and the DCs receiving material from DCn (i.e., DCn can
respond within the normal plant-to-DC lead time), or that any delay would be less than that covered by each DC’s own back-
up inventory. With this extra back-up inventory on hand, all DCs are now protected against an extra Iv disrupted periods.
Strategy 3 would have no impact on the system if disruptions occur at the plant, since no material would reach DCn to be
deployed to any other DC’s customers. Strategy 4 provides back-up to the plant itself. Many firms have multiple plants in
their network, some of which may perform similar functions and might be able to back each other up in a time of crisis. Some
systems are designed with full redundancy so that no product is single-sourced within their own network. We assume a
source of this nature exists for this Strategy; that is, if the primary plant is disrupted, the back-up plant could start supplying
the DCs directly after w periods.
We combine the formulations discussed in this Section into Proposition 1.

Proposition 1. The expected lost sales due to a disruption at the plant, when Ij extra periods’ worth of inventory are held at each
DCj, an extra Iv periods’ worth of total system demand is held at DCn, and a back-up plant can satisfy demand after w periods, is
given as follows:
8
Xn >< 0; w 6 Ij þ I v ;
E½LfPg ¼ wI
P j I v ð8Þ
>
j¼1 : Dj Xj ðtÞgðt þ Ij þ Iv Þ; w > Ij þ Iv :
t¼1
 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1273

Proof. See Section A.1 in the Appendix. h

In our formulation, both Ij and Iv serve to reduce the impact of disruptions at the plant in the same manner for a given DC
(only their sum matters, not their individual contributions). In reality, the choice of inventory location would be affected by
qualitative factors and costs which we do not address in our formulation. For example, Schmitt et al. (2011) discuss the ben-
efits of diversifying inventory locations in the face of disruptions, since it reduces the impact of individual disruptions. On the
other hand, capacity constraints at the DCs and/or the investment required to enable multiple DCs to distribute extra product
may encourage holding back-up inventory at a central location.

4.2. Losses due to disruptions at the DCs

Disruptions at the DCs can only be mitigated if the demand at that DC can be served by an alternate location. We model this
option using Strategy 3, where DCn can back-up the other DCs if they are disrupted, with a delay of v periods. However, a dis-
rupted DC can only be helped by DCn if DCn is not also disrupted. If DCn is not disrupted after a disruption has lasted v periods
at a given DC, then we assume it will provide material for the remainder of that disruption (i.e. we assume it will stay available
once it has initiated back-up service). This occurs with probability fn(0). If, on the other hand, DCn is not available after a dis-
ruption has lasted v periods at a given DC, we assume it will never be able to back-up that DC; this occurs with probability
1  fn(0). We make these assumptions to simplify the state space for disruption conditions, and numerical testing has shown
that for infrequent disruptions it does not have a significant impact. For DCn, since it cannot back-up itself, no mitigation is
available. Since we assume disruptions occur at each DC independently, we can multiply the independent probabilities of
a disruption at DCn and any DCj. We state the expected lost sales due to disruptions at the DCs in the following proposition.

Proposition 2. The expected lost sales due to a disruptions at the DCs, when DCn can back-up all other DCs if they are disrupted
after v periods, is given as follows:
8 P
1
>
> Dj ð1  fn ð0ÞÞ Xj ðtÞfj ðtÞ; v ¼ 0;
X
1 X
n1 >
< t¼1
E½LfDCg ¼ Dn Xn ðtÞfn ðtÞ þ ! ð9Þ
> v
P P
1
>
> v > 0:
t¼1 j¼1
: Dj Xj ðtÞfj ðtÞ þ ð1  fn ð0ÞÞ Xj ðtÞfj ðtÞ ;
t¼1 t¼vþ1

Proof. See Section A.2 in the Appendix. h

Note that the inability to mitigate disruptions at DCn should drive the firm to provide extra protection for that DC if pos-
sible, to lower the probability that it is disrupted. If this is not possible, then the firm could consider employing either two
DCs as back-ups, or an independent location that is more secure. If either of those options is pursued, then disruptions at DCn
would be mitigated after v periods as well. For the purposes of this analysis, we assume the firm is only considering invest-
ing in one back-up strategic DC, and we employ the formulation given in (9) in comparing strategies.

4.3. Total service level

We can now combine the formulations given in Propositions 1 and 2 to derive the total expression for expected service
level for the system.

Proposition 3. The expected service level for a system with a central plant and n DCs, where:

1. Ij extra periods’ worth of inventory are held at each DCj,

2. an extra Iv periods’ worth of total system demand is held at DCn,
3. DCn can back-up the other DCs after v periods, and
4. a back-up plant can provide material after w periods,

is given as
E½L
E½S ¼ 1  ; ð10Þ
D
where
8
Xn < 0; w 6 Ij þ I v ;
wIj Iv
E½L ¼ P
j¼1
: Dj Xj ðtÞgðt þ Ij þ Iv Þ; w > Ij þ Iv
t¼1
8
> P1
ð11Þ
> Dj ð1  fn ð0ÞÞ Xj ðtÞfj ðtÞ;
n1 >
<
v ¼ 0;
X 1 X t¼1 !
þ Dn Xn ðtÞfn ðtÞ þ Pv P
1
>
j¼1 >
t¼1 > Dj
: Xj ðtÞfj ðtÞ þ ð1  fn ð0ÞÞ Xj ðtÞfj ðtÞ ; v > 0:
t¼1 t¼vþ1
1274 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

Proof. See Section A.3 in the Appendix. h

Each strategy can be turned ‘‘off’’ using the following values for their corresponding decision variables: Ij = 0"j,
Iv = 0, v = 1, w = 1. If these values are used, then (11) reduces to the formulation for E0[L], given in (6). We evaluate (10)
for several disruption scenarios in Section 6.

4.4. Backordered quantities

We do not include backordered demand in our calculation of the service level, since it either becomes lost demand
according to the lost demand function, xj(t), or is satisfied when a disruption ends or back-up strategy is put into effect. Min-
imizing lost sales will generally also minimize backordered demand, as long as demand is not backordered indefinitely.
However, even if demand were completely backordered our model is still usable since we include this as a possibility
(100% backordering would simply be xj(t) = 0 "t). Thus for completeness, we formulate the expected backorders in Propo-
sition 4.

Proposition 4. The expected backordered demand for the system described in Proposition 3 is given as
8
!
Xn > < 0; w 6 Ij þ I v ;
X1 Xt
wIj Iv  
E½B ¼ P Pt þ Dn t  Xn ðtÞ fn ðtÞ
j¼1 :
> Dj t  Xj ðtÞ gðt þ Ij þ Iv Þ; w > Ij þ Iv t¼1 i¼1
t¼1 i¼1
8  
>
> P 1 Pt
>
> j
>
D ð1  fn ð0ÞÞ t  X j ðtÞ fj ðtÞ; v ¼ 0;
>
> t¼1 i¼1 ð12Þ
>   
n1 >
X < Pv P t
þ Dj t  Xj ðtÞ fj ðtÞþ
>
j¼1 >
t¼1 i¼1
>
>   !
>
> P1 Pt
>
> ð1  fn ð0ÞÞ
>
: t  Xj ðtÞ fj ðtÞ ; v > 0:
t¼vþ1 i¼1

Proof. See Section A.4 in the Appendix. h

5. Extension to multiple echelons

We now extend our service level formulation to consider a system with k + 1 separate echelons, where the kth echelon is
the furthest upstream echelon. We consider a system where echelons k through 1 are a serial system followed by distribu-
tion to the DCs, which are the 0th echelon. We do not limit each echelon to be physical location; in this model, what we refer
to as an echelon can also be a transportation mode. This allows for separate disruption types to be captured (for example, a
border closing that halts material flow, or a port closure that requires a rerouting emergency plan), each of which may have
its own disruption profile and mitigation strategies. We assume that separate echelons have independent disruption prob-
abilities, and that more than one echelon will not be simultaneously disrupted and that the system will reach steady-state
(full inventory recovery for all stages) prior to another disruption’s occurrence.
Additionally, our model could be used to capture a more general system where every echelon is completely dependent on
every stage in the echelon above it; that is, a disruption at any stage in a given echelon would mean production cannot con-
tinue at the immediate downstream echelon (unless one of the Strategies is activated). With this assumption, we can aggre-
gate every stage upstream from the DCs into a single node which has a single disruption distribution, gi(t), making the
system a serial network upstream from the DCs. Fig. 2 depicts this aggregation for a 3-echelon example.
Under this aggregated network system, we do not assume that all stages in a given echelon are simultaneously disrupted,
but aggregating the stages under a single disruption distribution as we propose means a disruption at a single stage will im-
pact the system as if that were the case. However, we place no restriction on the disruption distribution, meaning it can cap-
ture the independent disruption profiles of the stages in the echelon as needed. The pdf for a single echelon’s disruption
distribution could be the summation of individual, independent pdfs for each stage in the echelon, or disruptions could
be correlated across an echelon’s stages and a joint pdf could be used, or any other general distribution can be employed.
We now extend our Strategies to incorporate this larger network. Strategy 1 allowed strategic inventory reserves to be
held at each of the DCs. We extend this to allow strategic inventory to be held at any upstream echelon, as well, and denote
Ii as the number of periods of strategic inventory held at echelon i, i 2 [1, k]. We assume each stage in i holds the same num-
ber of periods’ worth of demand, Ii, and that if a disruption occurs at a stage in echelon i, that inventory cannot be accessed.
We make no change to Strategy 2, so DCn can still hold Iv periods’ worth of inventory. We denote Iij to denote all number of
periods’ worth of inventory downstream from echelon i to the customers at DCj, plus any inventory held for all DCs by DCn;
Pk1 i
for example, for echelon k; Ikj ¼ Ij þ Iv þ i¼1 I.
Strategy 3, DC service back-up, also has no change in this network, but we extend Strategy 4 to allow for back-up of any
upstream echelon. We assume the back-up time for any stage in an echelon is the same and denote this response time as wi.
 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1275

3-echelon DC1 DC1 Customers Aggregated-Stage Network DC1 DC1 Customers

Stage 2, 1 Network

DC2 DC2 Customers Echelon Echelon DC2 DC2 Customers

Stage 2, 2 Stage 1, 1
2 1

Stage 2, 3
DCn DCn Customers DCn DCn Customers

Fig. 2. Aggregation of example network with 3 echelons.

With this notation and extensions of the strategies, we formulate the expected service level for the system in the following
proposition.

Proposition 5. The expected service level for a system with k echelons in serial followed by n DCs, where:

1. Ij and Ii extra periods’ worth of inventory are held at each DCj and echeloni, respectively,
2. an extra Iv periods’ worth of total system demand is held at DCn,
3. DCn can back-up the other DCs after v periods, and
4. a back-up source can provide material in place of echeloni after wi periods,

is given as
E½L
E½S ¼ 1  ; ð13Þ
D
where
8
> 0; wi 6 Iij ;
Xk X n >< X1
E½L ¼ wi Iij
P þ Dn Xn ðtÞfn ðtÞ
>
i¼1 j¼1 > Dj Xj ðtÞg i ðt þ Iij Þ; wi > Iij
: t¼1
t¼1
8 P
1 ð14Þ
>
> Dj ð1  fn ð0ÞÞ Xj ðtÞfj ðtÞ; v ¼ 0;
n1 >
X < t¼1
þ !
> v
P P
1
j¼1 >
> D X ðtÞf ðtÞ þ ð1  f ð0ÞÞ X ðtÞf ðtÞ ; v > 0:
: j j j n j j
t¼1 t¼vþ1

Proof. See Section A.5 in the Appendix. h

We evaluate the expected service levels formulated throughout this section in the following section. We focus our numer-
ical analysis on three echelons (as depicted in Fig. 2) to make the conclusions on upstream versus downstream mitigation
strategies clear.

6. Numerical studies

We consider Strategies 1 and 2, holding strategic inventory before a disruption occurs, to be proactive and Strategies 3
and 4, backing up service after a disruption occurs, to be reactive. We focus on the impact of proactive versus reactive strat-
egies in our numeric studies to see which, if either, is preferable from the customer’s perspective, and what levels of both
should be considered.
We now specify the distributions for the disruptions and for customer lost sales behavior for our studies. We use a Dis-
crete Time Markov Chain distribution for disruptions, where a represents the failure probability (the probability of a dis-
rupted period following a non-disrupted period), and b represents the recovery probability (the probability of a non-
disrupted period following a disrupted period). This allows us to test both the frequency and the duration of distributions.
It yields the following steady state probabilities, pr, for the state of a location, where r is the number of consecutively dis-
rupted periods that location has experienced (Schmitt, 2007):
b ab
p0 ¼ ; pr ¼ ð1  bÞr1 ; r P 1: ð15Þ
aþb aþb
1276 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

We model the customer lost sales behavior using a combined distribution. A fixed percentage of customers are lost imme-
diately if material is unavailable (call this fraction kj), and the remaining customers have a random waiting tolerance. We
model the waiting time for these remaining customers as normally distributed with mean lj and variance r2j . Denote the
cdf of this normal distribution Nj(t). Thus the formulation for Xj(t), where t is the number of consecutively disrupted periods,
is:

kj ; t ¼ 1;
Xj ðtÞ ¼ ð16Þ
kj þ ð1  kj ÞNj ðt  1Þ; t > 1:

To illustrate this more clearly, Fig. 3 shows Xj(t) for various values for kj when lj = 2 and rj = 1 (remaining customers wait an
average of 2 periods, normally distributed with a standard deviation of 1 period). For the remainder of our numerical anal-
ysis, we use kj = 0.5 and lj = 2 and rj = 1 "j. We focus on a 3-echelon system and assume both upstream echelons have the
same parameter values (a, b, and w), so we drop the i superscript or subscript. We use n = 4 and Dj = 10 "j unless otherwise
specified, so the network considered has four distribution centers with total demand of D = 40 per period.

6.1. Proactive inventory placement

In this section we demonstrate the value that strategic inventory stock can provide. Strategies 1 and 2, as formulated in
Section 4.1, provide this protection. The benefits of this strategy at individual facilities has been discussed by Tomlin (2006),
and we demonstrate its value for a multi-echelon network here.
We first presume that disruption and recovery probabilities and inventory levels are constant across all sites. Fig. 4 shows
the service levels provided for different back-up periods’ worth of inventory (Ij), for varying disruption probabilities. We set
b = 0.2; thus each disruption has an average duration of 5 periods. Clearly having some amount of inventory held to protect
against disruptions has a significant impact on service level. However, since inventory cannot be used at a DC that is dis-
rupted in this system, disruptions at the DCs themselves cannot be mitigated through additional inventory; thus all the
Fraction of an order lost

1.2
1
0.8 lambda = 70%
0.6 lambda = 50%
lambda = 30%
0.4
0.2
0
0 2 4 6 8 10
Periods waiting

Fig. 3. Lost sales cdf graphs.

1
0.98
0.96
0.94
Service Level

0.92
alpha=0.5%
0.9 alpha=1%
0.88 alpha=1.5%
alpha=2%
0.86
0.84
0.82
0.8
0.78
0 2 4 6 8 10 12 14 16
Back-up Periods of Inventory

Fig. 4. Service levels versus total strategic inventory with b = 0.2.

 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1277

1
0.98
0.96
0.94
Service Level
0.92
alpha=0.5%
0.9 alpha=1%
0.88 alpha=1.5%
alpha=2%
0.86
0.84
0.82
0.8
0.78
0 2 4 6 8 10 12 14 16
Back-up Periods of Inventory

Fig. 5. Service levels versus total strategic inventory with b = 0.5.

curves eventually level off. Reactive back-up strategies are required to improve performance above the limits approached in
each curve.
The duration of disruptions also has a significant impact on the performance; we changed the recovery probability to 50%
(so disruptions only last an average of 2 periods) and graph the results in Fig. 5. As we would expect, shorter disruptions
means the service level curves are higher. We also observe that inventory offers approximately the same service level
improvement in either case.

6.2. Reactive node substitutions

6.2.1. Strategy 3: DC service back-up

We again assume that all locations have constant disruption profiles, with b = 0.2. We now assume that Strategies 1 and 2
are not proactively used, but one DC is capable of backing up the remaining DCs if they are disrupted. Fig. 6 shows the service
levels provided for varying levels of v, the response time for that back-up DC. Obviously, having a faster back-up response
plan means service levels will be higher. The magnitude of the this benefit increases with the disruption frequency; when
response times increase from 0 to 15 periods, the service level drops 1.3% when a = 0.005, versus 4.6% when a = 0.02.
Customer behavior has a direct impact on the service level as well, regardless of the response speed. Fig. 7 shows that
increasing k, the percentage of customers that exit as lost sales immediately, causes a direct drop in service level. We found
that decreasing l, the tolerance time that customers who do backorder will wait, had a similar linear impact.
We now test which DC would be best to select for providing back-up capabilities by modeling differences between them.
Fig. 8 presents the service level versus DC response time when the demand and failure probabilities at DCn are set equal to,

1
0.98
0.96
0.94
Service Level

0.92
alpha=0.5%
0.9 alpha=1%
0.88 alpha=1.5%
alpha=2%
0.86
0.84
0.82
0.8
0.78
0 2 4 6 8 10 12 14 16
DC back-up response time

Fig. 6. Service levels versus DC back-up response time for varying failure probabilities.
1278 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

0.93

0.92

Service Level 0.91

lambda=0.7
lambda=0.5
0.9
lambda=0.3

0.89

0.88

0.87
0 2 4 6 8 10 12 14 16
DC back-up response time

Fig. 7. Service levels versus DC back-up response time for varying customer behavior.

0.925

0.92

0.915
equal
0.91
Service Level

demand 50%
0.905 higher
demand 50%
0.9
lower
0.895 alpha 50%
lower
0.89 alpha 50%
higher
0.885

0.88

0.875
0 2 4 6 8 10 12 14 16
DC back-up response time

Fig. 8. Service levels versus DC back-up response time for different DCn cases.

50% lower than, or 50% higher than the other DCs. When varying the demand volumes, we fixed the total system demand at
40 and varied the relative quantities observed by each DC, in order to keep service level (which is calculated as a fraction of
the total system demand) consistent. We set a = 0.01 for the remaining DCs and produced the results graphed in Fig. 8.
As we would expect, increasing or decreasing a with respect to the other DCs produces a direct shift in the service level
curve. When DCn is less reliable, there is a higher chance that it will be disrupted when other DCs are disrupted, and thus the
system service level is lower regardless of the back-up time. In contrast, the response time does have an impact on the ben-
efits of using a smaller-volume DC, shown by the convergence of the three middle curves in the figure. If DCn can respond
quickly and have an effect on the service level, then using a DC with a smaller demand is the better choice since a higher
relative portion of the system demand then has a back-up option. If the response time is too large to offer any real benefit
to the service level, the relative demand size no longer impacts the service level.

6.2.2. Strategy 4: upstream back-up

Finally, we evaluate the back-up of echelons upstream from the DCs. We assume that no inventory or DC back-up capa-
bilities are available, but that all material to echeloni is supplied from an alternate location after wi periods. For these tests,
we assume that both echelon 2 and 1 have the same response time (w2 = w1) and thus we drop the subscript. Fig. 9 shows the
results. This figure is a more dramatic version of Fig. 6, showing Service level versus the DC’s response time. Back-up of an
upstream echelon protects the entire network, and for this system there are 2 upstream echelons, so decreasing w for both
echelons essentially doubles the benefit. Based on the significant improvements in service level depicted in the figure, firms
should seriously consider investing in back-up capabilities to protect network flow.
 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1279

1
0.98
0.96
0.94
Service Level
0.92
alpha=0.5%
0.9 alpha=1%
0.88 alpha=1.5%
alpha=2%
0.86
0.84
0.82
0.8
0.78
0 2 4 6 8 10 12 14 16
Upstream echelon back-up response time

Fig. 9. Service levels versus upstream-echelon back-up response time.

0.98
Service Level

0.96
psi=0
psi=5
0.94
psi=10
psi=15
0.92

0.9

0.88
0 2 4 6 8 10 12 14 16
DC back-up response time

Fig. 10. Service levels versus DC back-up response times for varying w response times.

6.2.3. Strategies 3 and 4 combined

A DC back-up plan covers downstream disruptions to the network, and an upstream-echelon back-up covers upstream
disruptions. Building the capability for both into the system can provide even greater service level protection. We demon-
strate this in Fig. 10, where we set a = 0.01 and graph service level versus DC response times for multiple upstream-echelon
response times. The two mitigation tactics clearly interact, raising service levels from 89% when both response times are 15
periods to 99% when both are 0 periods.

6.3. Proactive and reactive combinations

We have seen that each of the strategies considered offer improvement in long-run service level. Each impacts a different
location in the network or time in a disruption. Proactive inventory placement protects immediately against upstream dis-
ruptions. Reactive strategies determine where mitigation is available, and protect against disruptions that outlast available
proactive measures.
We demonstrate the numeric impact of making all strategies available in Fig. 11. The figure uses a response time for the
upstream-echelons and DCn of 5 periods and graphs the service level for multiple back-up inventory levels.
Note that every curve in Fig. 11 completely flattens for inventory levels greater than 5 periods’ worth. Inventory is only
needed to keep the supply chain running until back-up material can be received. Any inventory reserves carried above the
amount required to reach that back-up is unnecessary. However, if the time to back-up was not known with certainty (if v or
w were stochastic in reality), then some excess reserve stock may be worthwhile to provide more coverage protection. Addi-
1280 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

0.98

0.96

Service Level 0.94 alpha=0.5%

alpha=1%
0.92
alpha=1.5%
alpha=2%
0.9

0.88

0.86

0.84
0 2 4 6 8 10 12 14 16
Back-up Periods of Inventory

Fig. 11. Service levels versus inventory for v = w = 5.

tionally, if the firm might draw on the reserve stock for other reasons (such as for an unanticipated spike in demand), then
the firm should be aware that they may not be fully protected if a disruption occurs at the same time, and additional reserve
stock may be desired.
The proactive inventory placement has a measurable impact on service level increase, and can cope with frequent, short
disruptions, or can help sustain the system until back-up capabilities become available. Alternately, having back-up capabil-
ities in place allows the system to retain its customer base through the duration of a disruption, and would be vital if a dis-
ruption was actually permanent. These methodologies should be balanced and investment in each should be carefully
considered.

6.4. Optimizing inventory

While our focus in this model was on service levels and not costs, we assumed that investments would be required to
provide lower v or w response times, and that inventory costs corresponding to I should be minimized. We outlined the opti-
mization model for this strategic decision in Section 3.3, but defined the cost function broadly to capture the investments
required in any or all of the back-up strategies modeled. This model can be used to solve for the optimal (smallest) inventory
target required to provide a given average service level, and we demonstrate this in Fig. 12.
The figure shows a different curve for different minimum average service levels, and shows the minimum number of peri-
ods’ worth of inventory that must be carried at the DCs to meet that constraint against different upstream-echelon back-up
response times. As expected, for higher required service levels and higher back-up response times, more inventory is re-
quired at the DCs. The graph illustrates the interaction of the decision variables and the usefulness of the model in testing
the trade-offs.

12
Minimum periods of inventory

10

8
98%
97%
6
96%
95%
4

0
0 5 10 15 20 25 30 35 40 45 50
Upstream echelon back-up response time

Fig. 12. Minimum inventory levels to achieve required service levels.

 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283 1281

7. Conclusions

We summarize the following observations from our studies to provide guidelines in making strategic mitigation
decisions.

 The best protection can be achieved through a balance of proactive and reactive measures. Proactive measures (inventory
reserves) cover the front-end of a disruption and provide immediate protection until reactive measures can be imple-
mented. Reactive measures (back-up capabilities) protect the supply chain until the disruption’s end and prevent long
(or permanent) interruptions to customer service.
– Overlapping the capability for proactive and reactive mitigation is unnecessary. However, exceptions to this could be if
reactive mitigation times are stochastic, or if reserve stock may be used for protection against other stochastic events,
such as unanticipated increases in demand.
– If investment in multiple strategies is not an option, then if disruptions are frequent but short in nature, using strategic
inventory reserves is the best option. If disruptions are less frequent but long, then reactive methods should be
selected.
 If a DC back-up strategy is designed such that one DC is the primary back-up for all other DCs, choosing the smallest-vol-
ume DC capable of handling that back-up and/or the DC least likely to be disrupted provides the best service level for the
system as a whole.

Whether disruptions are to individual transportation arcs or to entire plants, proactively protecting against them requires
investment of time and funds. We only discussed costs on a high level in this paper, recognizing that they can vary drastically
depending on industry, mitigation type, level of risk tolerance, etc. However, the model presented in this paper quantifies the
benefit that different investments can give, providing a quantitative tool to compare different investment decisions.
The service levels reported in this analysis are long-term expectations; in the midst of a disruption, service levels can drop
to levels much lower than those observed in the long run. Choosing between these strategies or other mitigation tactics
should be made carefully with consideration to both the extremes and the long-run service levels that each would provide.
We assumed deterministic demand in these models, implying that if a disruption does not occur then service levels will be
100%. In reality, fluctuations in demand cause companies to deal with customer service level drops even without the presence
of disruptions. The drops in service level reported in this analysis can be interpreted as drops below the current performance
level that a supply chain faces under stochastic demand; thus companies currently working to maintain high service levels
should take those potential drops seriously, since they pose a significant risk to a firm’s performance for its customers.
While complex supply chain models make analysis challenging, they also capture reality for most firms more closely than
models which focus on single locations only. Thus further research on the impact of supply chain disruptions in multi-echelon
systems is needed, developing models capturing more complexity (more general networks and/or less assumptions required).
Firms themselves should make an effort to understand their current level of supply chain risk; ignoring the possibility of dis-
ruptions simply because they have not yet occurred does not lead to a robust supply chain. Thus research guiding firms on
how to quantify disruption profiles would be useful. The analysis presented in this paper outlines several mitigation strategies
which can address different types of disruption risk in different locations in the supply chain, and in order to choose between
them, firms need to understand the location and level of risk that their supply chains are currently subject to. With this infor-
mation, the best decisions on where to invest time and money to make the system more resilient can be made.

Acknowledgments

Thanks go to Dr. Larry Snyder for his comments and advice on an earlier draft of this paper, and to Dr. Chris Caplice for his
helpful input during the construction of the model. Useful comments and questions provided by anonymous referees were
also appreciated.

Appendix A. Proofs of propositions

A.1. Proof of Proposition 1, Section 4.1

If both strategies 1 and 2 are employed, the expected losses is equal to (7), but with the term g(t + Ij) replaced with g(t + Ij
+ Iv). Strategy 3 has no impact in this scenario. Under Strategy 4, if w 6 Ij + Iv, there will be no missed cases; the back-up
plant will take over for the primary plant before inventory ever runs out in the system. If w > Ij + Iv, then Xj(t) portion of
customers will be lost for t 2 (Ij + Iv, w]. Combining this logic and summing over all j DCs yields (8). h

A.2. Proof of Proposition 2, Section 4.2

For a disruption lasting 6v periods, the lost sales at each DC is equal to the amount lost if no Strategy to back-up the DCs
is employed:
1282 A.J. Schmitt / Transportation Research Part B 45 (2011) 1266–1283

X v
n X
E½LfDCgjt 6 v ¼ Dj Xj ðtÞfj ðtÞ ð17Þ
j¼1 t¼1

This is also the amount lost at DCn for all values of t. If DCn is not disrupted after v periods, we assume no sales will be lost for
the remainder of the disruption. If DCn is disrupted (with probability (1  fn(0)), then demand is still lost. Thus the following
gives the expected loss sales for a disruption exceeding v periods, for a DC other than DCn:
X
n1 X
1
E½LfDCgjt > v ¼ ð1  fn ð0ÞÞ Xj ðtÞfj ðtÞ ð18Þ
j¼1 t¼vþ1

Combining these cases plus the lost sales from DCn itself yields the expression given in (9). h

A.3. Proof of Proposition 3, Section 4.3

The long-term service level is 1 minus the expected percentage of lost sales per period, E½L
D
. (11) is the combination of the
results derived in Sections 4.1 and 4.2. h

A.4. Proof of Proposition 4, Section 4.4

After one disrupted period, the backordered demand at DC j is all that is not lost, or Dj(1  xj(1)). After two periods, it is
Dj(1  xj(1)) + Dj(1  xj(1)  xj(2)) = Dj(2  xj(1)  Xj(2)). We continue this pattern to formulate the following expression
for the total amount of backordered demand in a given period:
8
> Dj ð1  xj ð1ÞÞ; t ¼ 1;
>
>
< D ð1  x ð1ÞÞ þ D ð1  x ð1Þ  x ð2ÞÞ; t ¼ 2;
j j j j j
Bj ðtÞ ¼
> Dj ð1  xj ð1ÞÞ þ Dj ð1  xj ð1Þ  xj ð2ÞÞ þ Dj ð1  xj ð1Þ  xj ð2Þ  xj ð3ÞÞ;
> t ¼ 3;
>
:
...; ...
8 ð19Þ
> D j ð1  xj ð1ÞÞ; t ¼ 1;
>
> !
< Dj ð2  xj ð1Þ  Xj ð2ÞÞ; t ¼ 2; X t
¼ ¼ Dj t  Xj ðtÞ
>
> Dj ð3  xj ð1Þ  Xj ð2Þ  Xj ð3ÞÞ; t ¼ 3;
>
: i¼1
...; ...
This leads us to the expression for the total backorders in any period given in (12); (12) is (11) written with the expression
derived for Bj(t) in (19) replacing the expression for Lj(t), derived in (5). h

A.5. Proof of Proposition 5, Section 5

Proposition 5 is an extension of Proposition 3. The lost demand due to a disruption at each echelon parallels the losses due
to a disruption at the plant in that Proposition. We take the formulation given for E[L{P}] in (8):
8
Xn >< 0; w 6 Ij þ I v ;
E½LfPg ¼ wIj Iv
P ð20Þ
>
j¼1 : Dj Xj ðtÞgðt þ Ij þ Iv Þ; w > Ij þ Iv :
t¼1

and replace Ij + Iv with Iij since demand would continue to be satisfied downstream for as long as sufficient downstream
inventory exists. We also change w to wi, g(t) to gi(t), and sum this expression over all echelons upstream from the DCs
(i 2 [1,k]), which yields the expression given in (14). h

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