Economic Order Quantity, explained.
Economic order quantity is an optimal replenishment size in a classic model balancing fixed ordering costs and inventory holding costs.
Why it happens
Annual demand 1,200, setup cost forty and holding cost two give relevant annual cost DS/Q+HQ/2 and optimum √(2DS/H), approximately 219.09 units.
Economic order quantity is an optimal replenishment size in a classic model balancing fixed ordering costs and inventory holding costs.
Read the result
Annual ordering and holding costs are computed from the same selected batch size. Purchase cost is omitted because its unit price is unchanged across choices.
A worked example
Trade frequent orders for average inventory
Select order quantity one hundred and inspect twelve annual orders with average inventory fifty.
Increase batch size and observe ordering cost fall while holding cost rises.
Reveal the optimum about 219.09 units and compare its relevant annual cost about 438.18 with nearby choices.
OPTIONAL DEEPER DETAILGo deeper: inside the model
Inside this model
Annual demand 1,200, setup cost forty and holding cost two give relevant annual cost DS/Q+HQ/2 and optimum √(2DS/H), approximately 219.09 units.
Where this idea is useful
A practical use
Avoid minimising order count without considering the inventory held between orders.
A common misconception
“The fewest orders always give the cheapest inventory policy.”
Larger batches save setup costs but increase average holdings. The classic optimum balances both terms under its assumptions.
What this explanation leaves out
- Steady known demand, instantaneous replenishment, no shortages and no quantity discounts are assumed. Fractional annual order counts are long-run averages.
Why can the annual order count be fractional?
It is a long-run average under steady demand, not an instruction to place a literal fraction of a purchase order.
Which holding cost grows when you reduce ordering frequency?
Associated thinkers
Associations marked provisional are awaiting source review.
Further reading
Explore the original research or the teaching reference behind this experiment.