Characterization of facility assignment costs for a location-inventory model under truckload distribution

We consider a two‐stage distribution system, where the first stage consists of potential distribution centres (DCs) and the second stage consists of geographically dispersed existing retailers. Our goal is to determine the set of open DCs and assignment of open DCs to retailers simultaneously with inventory decisions of retailers. In addition to the DC‐specific fixed facility location costs, we explicitly model the inventory replenishment and holding costs at the retailers and truckload transportation costs between the DCs and the retailers. The transportation costs are subject to truck/cargo capacity, leading to an integrated location‐inventory problem with explicit cargo costs. We develop a mixed‐integer nonlinear model and analyse its structural properties leading to exact expressions for the so‐called implied facility assignment costs and imputed per‐unit per‐mile transportation costs. These expressions analytically demonstrate the interplay between strategic location and tactical inventory/transportation decisions in terms of resulting operational costs. Although both the theory and practice of integrated logistics have recognized the fact that strategic and tactical decisions are interrelated, to the best of our knowledge, our paper is the first to offer closed‐form results demonstrating the relationship explicitly. We propose an efficient solution approach utilizing the implied facility assignment costs and we demonstrate that significant savings are realizable when the inventory decisions and cargo costs are modelled explicitly for facility location purposes.