Economic order quantity (EOQ) – what is it?
Economic Order Quantity, also known as Economic Order Quantity (EOQ), is an inventory management model that helps companies determine the optimal order size to minimize the total costs associated with ordering and storing goods. The goal of EOQ is to find a balance between storage and ordering costs, leading to a reduction in total costs associated with inventory management.
The EOQ model assumes that ordering costs (such as administrative and transportation costs) and warehousing costs (such as storage, maintenance and product obsolescence risk) are in conflict – increasing order size reduces ordering frequency but increases warehousing costs, and vice versa. EOQ determines where these costs balance out, so that a company can maintain an adequate amount of inventory at minimal cost.
The EOQ formula is relatively simple: EOQ = sqrt((2DS) / H), where:
- D is the annual demand for the product,
- S is the cost of placing an order once,
- H is the cost of storing a unit of product per year.
With EOQ, companies can avoid excess inventory, which translates into reduced storage costs, while avoiding shortages of goods, which prevents loss of sales and customer satisfaction. This is especially important in industries with high order volumes and in situations where cost optimization is critical to a company’s profitability.
Frequently asked questions
1. What is economic order quantity (EOQ)?
Economic order quantity (EOQ) is an inventory management model that allows companies to determine the optimal order size to minimize total ordering and warehousing costs.
2. How to calculate EOQ?
EOQ can be calculated using the formula: EOQ = sqrt((2DS) / H), where D is the annual product demand, S is the ordering cost, and H is the annual storage cost of a unit of product.
3. What are the benefits of using EOQ?
Using EOQ allows companies to optimize inventory by minimizing storage and ordering costs. This allows them to avoid overstocking, reduce operating costs, and avoid supply shortages.
4. Is EOQ suitable for every company?
EOQ is particularly useful for companies that manage large volumes of inventory and have a constant demand for products. In the case of dynamic demand or rapidly changing market conditions, inventory management strategies may need to be adjusted.
