Economic Order Quantity
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Kyle Ashcraft, CPA · 2019 CPA Exam Scores · 95 FAR · 98 BEC · 91 REG · 90 AUD
Once you know when to reorder inventory, the next question is how much to order. The economic order quantity (EOQ) formula answers that by finding the order size that minimizes your total ordering and storage costs.
What is the EOQ formula?
"Units" here means the number of units you expect to order over the year — not a dollar sales figure. "Cost per order" is the fixed cost of placing a single order, and "storage cost per unit" is what it costs to hold one unit in inventory for the year.
Worked example: calculating EOQ
Say a company expects to order 10,000 units this year, each order costs $50 to place, and it costs $2 to store one unit for the year:
Ordering about 707 units at a time minimizes the combined cost of placing orders and storing inventory — order in smaller batches and you pay more in ordering costs; order in bigger batches and you pay more in storage costs.
EOQ balances two costs that move in opposite directions. More frequent, smaller orders raise ordering costs but lower storage costs; fewer, larger orders do the reverse. EOQ is the order size sitting at the point where those costs are minimized in total.
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Kyle Ashcraft, CPA scored 90 or above on every section of the CPA exam in 2019, including a 98 on BEC. He is the founder and sole instructor of Maxwell CPA Review, a complete CPA review course covering all six sections, where he creates every lecture, textbook and study outline himself.