Economic Order Quantity
Economic Order Quantity (EOQ) is a fundamental inventory management concept that helps firms estimate the ideal order size to minimize overall inventory expenses, which include ordering costs, holding costs, and shortage costs.
Key Components of EOQ
- Demand (D): This refers to the overall quantity of units required over a certain period, often measured annually. Efficient EOQ computations depend on precise demand forecasts.
- Order Cost (O): Regardless of order amount, this fixed cost is incurred each time an order is placed and is also referred to as setup cost. It covers costs like shipping and handling.
- Holding Cost (H): The cost of keeping unsold goods for a year per unit is known as the holding cost. Depreciation, insurance, warehousing fees, and opportunity costs associated with capital invested in inventories are examples of holding costs.
Advantages
- Improved Order Fulfillment: Ensures products are on hand when needed, improving customer satisfaction and potentially increasing sales.
- Reduced Overordering: Helps avoid tying up too much cash in inventory.
- Less Waste: Optimizes order schedules, reducing obsolete inventory, particularly for perishable goods.
- Lower Storage Costs: Reduces the amount of products to store, lowering related costs.[
- Quantity Discounts: Allows businesses to take advantage of bulk order discounts.
Here's the formula:
EOQ = √ (2 x D x O / H)
Economic Order Quantity Video