Economic order quantity: how much to order, in plain English
Every order has a price tag beyond the goods. Someone has to place it, check it in and pay for the delivery. Order small and often, and those costs pile up. Order big and rarely, and you pay in a different way, because stock sitting on a shelf ties up cash, takes space and ages.
Economic order quantity, usually shortened to EOQ, finds the sweet spot where the two costs balance. It is more than a century old and is still one of the most useful formulas in stock control.
The formula
2,400
2 x yearly demand
1,200 units a year
$30
Cost to place one order
$2.40
Holding cost per unit per year
173
Square root of 30,000
EOQ = the square root of (2 x demand x order cost / holding cost). Round to a sensible case size.
Three ingredients: how many units you sell in a year (demand), what it costs you to place and receive one order (order cost), and what it costs to hold one unit for a year (holding cost). The holding cost is usually a share of the item's price, covering cash tied up, space, handling and risk of damage.
The picture
Ordering cost falls as orders get bigger. Holding cost rises. The total is lowest where the two are equal.
A worked example
You sell 1,200 gallons a year.
Each order costs about $30 to place and receive.
Holding one gallon for a year costs $2.40.
EOQ = square root of (2 x 1,200 x 30 / 2.40) = square root of 30,000 = about 173 gallons.
That is roughly 7 orders a year, one every 53 days.
Check it against two other choices. Order 100 at a time and you place 12 orders ($360) and hold an average of 50 units ($120): a total of $480. Order 400 at a time and you place 3 orders ($90) and hold an average of 200 units ($480): a total of $570. At 173, both costs are about $208, for a total of about $416.
- Order 100 at a time$480
- Order 173 at a time (EOQ)$416
- Order 400 at a time$570
Ordering plus holding cost, from the worked example.
What you get from it
- A principled answer to 'how much should I order?', instead of 'the same as last time.'
- Fewer small, expensive orders on items you buy all the time.
- A reason to push back when a supplier suggests a bigger quantity.
- A way to see how much the order cost matters. If your cost per order falls, the best order size falls too.
When to ignore the answer
EOQ assumes demand is steady, prices do not change and you can order any amount. Real life has minimum order quantities, case sizes, quantity discounts and seasons. When a supplier offers 10 percent off for a pallet, the discount may beat the formula. Use EOQ as a starting point, then round to the supplier's case size and check it against your budget and shelf space.