Accounts Notes: What is EOQ and how to calculate EOQ

Friday 5 August 2011

What is EOQ and how to calculate EOQ

Economic Order Quantity (EOQ) is the amount of inventory to be ordered at one time for purposes of minimizing annual inventory cost ROOT OF 2*A*CP/CH.

EOQ =root 2DK/C

D= annual demand
K= ordering cost,
C= carrying cost

The basic Economic Order Quantity (EOQ) formula is as follows:

EOQ = Root of 2(annual usage in units) (Order cost)/annual carrying cost per unit)

Annual usage: Expressed in units, this is generally the easiest part of the equation. You simply input your forecasted annual usage.

Order Cost: Also known as purchase cost or set up cost, this is the sum of the fixed costs that are incurred each time an item is ordered. These costs are not associated with the quantity ordered but primarily with physical activities required to process the order.

Carrying cost:

Also called Holding cost, carrying cost is the cost associated with having inventory on hand.It is primarily made up of the costs associated with the inventory investment and storage cost. For the purpose of the EOQ calculation, if the cost does not change based upon the quantity of inventory on hand it should not be included in carrying cost.

In the EOQ formula, carrying cost is represented as the annual cost per average on hand inventory unit. Below are the primary components of carrying cost.