Economic Order Quantity (EOQ)

EOQ = square root of (2 x D x S) / H, where D is annual demand, S is ordering cost per order, and H is holding cost per unit per year. The formula finds the point where ordering costs equal holding costs.

EOQ works best for items with stable, predictable demand, known ordering and holding costs, and no significant quantity discounts. It is less useful for seasonal items, new products, or items with highly variable demand.

EOQ assumes constant demand, fixed ordering and holding costs, instant replenishment, and no quantity discounts. In reality, demand fluctuates, costs change, and suppliers offer bulk discounts. Treat EOQ as a starting point, not a strict rule.

Holding cost includes storage, insurance, obsolescence, and capital cost. A common estimate is 20-30% of the item value per year. For a $10 item, holding cost might be $2-3 per unit per year.

Divide annual demand by EOQ to get the number of orders per year. If demand is 1,000 units and EOQ is 200, you would order 5 times per year (about every 10-11 weeks).

Avoid using EOQ for: products with highly seasonal demand, new products without demand history, perishable items with short shelf life, items with significant quantity discounts from suppliers, or products with long and variable lead times.

Ordering cost (S) includes all expenses to place and receive an order: purchase order processing, communication with suppliers, receiving and inspection, invoice processing, and shipping fees. Calculate by dividing total annual ordering expenses by number of orders placed.