Economic Order Quantity (EOQ)

Posted in Operations and Supply Chain Terms, Total Reads: 13672
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Definition: Economic Order Quantity (EOQ)

Economic order quantity (EOQ) is the quantity of a product that should be ordered so as to minimize the total cost that includes ordering costs and inventory holding costs.

The basic model of EOQ gives the equation to calculate EOQ as follows,    

 
EOQ= √((2* Annual Demand*Co)/Ci )

where,

Co = fixed cost per order or the ordering cost

Ci= Inventory holding cost per unit

This is deduced by differentiating and finding the minima for the equation for the total annual cost, which comprises of the variable purchase cost, the ordering cost and the inventory holding cost. But the EOQ does not depend on the purchase cost as it remains constant for the same annual demand whatever be the order quantity.

With increasing order quantity, the number of orders to be placed in the year decreases and thus the ordering cost decreases but at the same time the inventory holding cost goes on increasing. At the EOQ value, the total cost comprising of both these costs is at its minimum value.

 

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