Calculating EOQ - Economic Order Quantity (Inventory Costs & Purchasing Costs)

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This video explains how to calculate economic order quantity using the time-tested Wilson EOQ formula.
The video provides a step-by-step process to defining the economic order quantity for any company. It takes into consideration the company's annual or yearly consumption, the price it pays for each unit it purchases for its inventory, the cost to make that purchase and finally, the company's costs to hold inventory on a monthly basis.
Determining the annual or yearly consumption is fairly straightforward. Simply take a total of all the inventory of a given part used in a year. Next, take the amount your company pays for that part or raw material.
Determining your company's costs to purchase doesn't merely involve totaling your total volume multiplied by price. Instead, it's more about defining what it costs your company to make a purchase. How much does it cost your company to purchase from a vendor?
Your costs to purchase include time spent to approve and sign purchase requisitions. It also includes the time spent placing that order and sending it to your vendor. Next, the costs of inspecting the order are accounted for and finally, the costs of paying your vendor.
The Wilson EOQ formula involves doubling your yearly consumption total and multiplying it by your company's cost to purchase. This amount is then divided by the sum of the raw material or part's price multiplied by its inventory holding costs.
The Wilson EOQ formula is an excellent tool for making sure your company doesn't buy too much or too little.

[@nasirumohammed4849]

This clip is very simple, easy and straight to the point for student understanding.

[@Driveyoursuccess]

+nasiru mohammed Hello Nasiru. Thank you very much for your feedback. Take care.

[@quinntoppolis6454]

Thank you for helping me in something I overlooked while studying for finals. You may have just saved my grade. Thank you, kind Sir.

[@Driveyoursuccess]

No problem.

[@poultryworldindia]

Hi, it's very easy to teach technical aspects of any business manya times, but very difficult to explain techno-commercial aspect to understand most of the businesses, which is the main cause of many business failures, thanks a ton buddy

[@bigshot9558]

That's an accurately drawn square root

[@mlenzecele2262]

hi Ian i get lost when it comes to getting the 141 units all above is clear but from 20000 what do you do

[@LuisGonzalez-hq2lz]

Very good video just should be more clear and explain where the 141 units come. I figured out that is the square room of 20,000 but should be more clear at the end.

[@nolithabambimpunzi6674]

Thank you i have been wondering where the 141 comes from. Now that you have explain I understand thanks

[@yendygonzalez8189]

Thank you Ian, very helpful!

[@kristen9226]

This video was very helpful, however I have a question I’m needing help with. How do u work out the total cost, frequency of orders and time between orders?

[@mystecom]

All depending what is the Lead time from dock to dock. Part X takes 4 weeks of fabrication, so that information comes from your supplier information for said part.

[@SEEpath-kt7jm]

+Ian Johnson- I believe the units should be 1414 not 141. You are missing the last digit. If not can you explain why the EOQ would be 141 please?

[@madislee]

SEE path 2016, because the square root of 20,000 is 141.421356, and I believe you are not going to buy 0.421356 unit. So the optimal units per order are 141.

[@RMS11852]

It's 141. Maybe you thought the same thing as I did. Its not $200, is $2.00..

[@Kaitangata]

Not really,do your maths well and try again!

[@Kaitangata]

Oh,your correct.It's 1414!

[@Kaitangata]

Correct!

[@kainatlaghari1223]

thanks sir this help full lecture have like a magic to understand EOQ..........

[@daneal7874]

Great explanation!! However, I worked for a big retailer! They buy stuff at different prices all the time, and there are hundreds of products with different shipping costs and as you said: the lead time varies all the time!! So, I am not sure how can we really relay on concepts of EQO!!!

[@latigorapper]

Thanks for this. Just one question because I may have missed it... in the first part of the formula it's 2 (A) x CP or 2 x (3,000) x CP... Where did the 2 come from? or is it something constant where the A or Annual usage will always be multiplied by 2?

[@TekstilUniforma]

I also cant get that part

[@AccountingInstruction]

Good stuff. Thank you Ian.

[@carmindamemije2364]

How did you get 141 units? I think you forgot to mention

[@KarimBenabd]

He did. It is the square root of 20'000. Check back the video.

[@bilitoc]

Where did you use the 3000 units? I understand this is the demand, right? I believe the top part of the equation should be 2AD. A bit confused...Thanks!

[@user-ym5qo2qv2i]

Thank you very much for this viseo. Ihave a question about managing inventory for buying groceries at the store or the market. I think in that case calculating purchasing and holding cost might be more difficult than the classic formula. In addition i find myself troubled calaculating the periodic rate of damand for example the weekly demand for bottle of milk. It is difficult more when i do not care the capacity of the refrigerator. for right now i am mapping the list of products that being purchased and their prices as well and by writing down in EXCEL spreadsheet the dates of buying groceries as well as purchase quntity and inventory for each product. is that a simple and practical method for reducing the toal cost for buying groceries?

[@Srushti_8909]

Thank you 👍very helpful video 💯❤from india sir

[@asandamotaung5342]

very helpful. Thank you!

[@bobrobinson7919]

Hi Ian First of all, thank you for sharing this video. However, what I am curious about is that the question asked by Philippe Van Reybrouck. Couple of weeks ago I had Supply Chain Management class and asked my professor to explain the purpose of using square root and multiplication by 2, but he could not give reasonable response. So it would be nice if you could explain it.Thanks in Advance

[@MrShouting]

Bob Robinson it’s because the derivation of EOQ is when you set ordering cost = to carrying cost, with qty as your variable. Solve for X, then take the derivative to find the local minimum (EOQ). You might have to investigate the carrying cost formula and ordering cost formula, but once you have them, set them equal to each other and go from there.

[@diggamoon2433]

actually got it. thanks :) great video

[@downtoearth5108]

Hello Ian. I've just started a course in Logistics and just started on this subject. What is the final part of the equation to get at 141 units? Thank you.

[@Hafsa354]

down to earth Square root of 20,000.

[@Diana-mo6mg]

yea, but how did he get 20,000 the equation says 6000 x 200, but he calculated 6000 x 2, not 200.

[@ghebbitube3098]

Dear Sir thank you very Much for your Teaching Mechanism .you are wonderful Teacher.

[@potnudles]

hi, how do I work out the squared number of 20,000. I know its 141 because you told me in the video, but how to you get to 141? anyone who knows, please reply. pleeease

[@danladigift914]

Thank you very much sir, I'm so grateful

[@irfand8834]

Hello , Thank you for nice explanation .Sir, I have one question about demand . If i have monthly demand e.g 1000 Units and Annual ordering cost ( 50) and Annual Holding Cost ( 10 ) . EOQ will be Sqrt( 2* 12000* 50 / 10) = 346 Units ? What will be EOQ for Monthly order ? Thank You

[@MrShouting]

If you have to order monthly, then you might be forced to order a quantity that is not your EOQ. In this case, you will be simply ordering a quantity of “20 days supply”. Basically take your daily demand, multiply by 20 and that is your approximate order quantity. You can compare this to EOQ, but will likely be different. Calculate both numbers and compare. If EOQ is larger, you might be spending too much time managing this part. If EOQ is lower, you might be holding too much inventory.

[@_Zoolu]

Hi Ian Does purchasing cost include transportation?

[@libyanmeme85]

Thank you Ian so much 🌺🌺🌺

[@abaidaramex2818]

hi, nice video easy to understand and helpful,i have one question" how we can measure cost per unit which is lying in our warehouse" can you please give me formula for this.please keep continue to upload these sample. thanks

[@Driveyoursuccess]

+Abaid Aramex Hi Abaid. The solution involves going to my website wwww.driveyoursuccess.com - the following post includes and excel sheet that allows you to define the cost of inventory in your warehouse: www.driveyoursuccess.com/2011/04/sample-excel-sheet-calculating-inventory-holding-costs.html

[@mboe94]

Big thanks. This helped.

[@udawa]

Good one sir, thank you..!

[@mrspeciest7589]

Hi ian, great video. i've been looking into the EOQ recently and I don't think it is a great tool in deciding the no of purchases and the amount to purchase in the practical sense. I see it more as a rule of thumb benchmark. As you mention, the variables change very often. Furthermore, its basically a formula saying that you shouldn't buy more stock when your holding costs are high. I think we have an intuitive sense to adjusts our stock without this formula. what do you think Ian?

[@Driveyoursuccess]

Sam fisher Hi Sam. It's true - a lot of it is based on intuition to some extent. We all want to be able to capture opportunistic sales and don't want to encounter a stock out. However, EOQ is still applicable to those instances where companies purchase extremely high volumes of raw materials, spares and or consumables.

[@innovamx1]

Just as an addition to the comment, this formula also involves the Setup Cost, so ideally it is trying to make an equilibrium between holding and purchasing costs. So shouldn´t buy more (qty) when HC is high considering Setup costs are low. There can be some other cases by mixing this idea (buy more qty when setup cost is high and HC low) and so on... so when used along with the other formulas (TC, reorder point, etc) the outcome can be better than using only intuition.

[@mitkovich]

I think the holding cost is not correct here. Normally it is considered that in average holding cost is between 20 and 30% per year. The average per mount is 2-3% which you use. However, the formula requires usage of the annual holding costs!!!

[@Driveyoursuccess]

+Dimitar Georgiev It does, but that conversion back is simple.

[@asmithakur03]

Do we include obscelence costs ?

[@drmatey]

This helps man thank you

[@ismailnassar4103]

Very helpful thanks. But one question, is the shipping cost is part of ordering cost ?

[@edutechguruengineeringlear4280]

Yes... please refer edutech guru engineering learning videos

[@ismailnassar4103]

@@edutechguruengineeringlear4280 Thanks for ur answer. After my analysis ..in my case .. I think answer is No...

[@edutechguruengineeringlear4280]

@@ismailnassar4103 ordering cost involves data processing and clerical cost as well as transportation cost that is all costs before inventory reaches to spot /location... please correct. ...

[@ismailnassar4103]

@@edutechguruengineeringlear4280 I will share the example with you & the logic

[@lawrenceelliot7422]

hi, how can I calculate the unit sales double,what is the percentage increase in the EOQ

[@habibyami]

Thank you very much, I have a doubt that why do we have to multiply 2 with annual usage quantity while calculating.

[@innovamx1]

+Noor Mohamed Hello! if this question is not yet answered, it comes from the Total Cost original formula... TC = (D/Q)Co + (Q/2)Cs , if find the optimal TC by first derivative you will get the EOQ formula

[@mohanaramans9969]

bro do you know how to calculate inventory days and how to reduce the inventory day

[@thulanimapholoba5876]

Thank you so much Sir

[@navashasingh3556]

i need help with a question please

[@raquelpicado7878]

Hi, How can I express the profit as a function of T and Q?

[@jitinmathew971]

very helpful

[@stephanierivera2326]

How do you calculate in-transit carrying costs per unit?

[@NicholasSchlesinger]

Very useful, thank you! :)

[@Driveyoursuccess]

Thank you Nicholas. Let me know if you need anything else or another topic covered.

[@Nothingmuch68]

where dose the 3% come from?

[@spiroskandiliotis9600]

it's just an example

[@janicetolliver5129]

great tips...

[@Driveyoursuccess]

Thank you Janice. Let me know if anything else interests you.

[@razuofficial9986]

thanks kaka from Bangladesh.

[@Kaitangata]

But here we are using a different formula ie 2cd/ip and finding the root after!

[@younesssaaidi5889]

Thanks Sir

[@marcopolo2395]

How can you solve that without knowing the cost?

[@pabayande]

Dear Ian, please i have EOQ question to solve and wants to see if you can be of help. If the i will send the question to you asap. Thanks

[@Driveyoursuccess]

Absolutely! please email me at [e-mail]

[@ChristyKrohne]

He jumps from EOQ = 20 000 to EOQ = 141 Units. How exactly did he get to 141 units?

[@Driveyoursuccess]

Sorry - might have missed a step there.

[@sari-saringkwento6623]

I'm a little bit confused on 141?

[@MrShouting]

141 is the square root of 20,000 141 = sqrt(20,000)

[@mslisaking]

Thank you, was struggling to understand this

[@antonyselvam]

hi ian some of eoq formula's also holds unit price like eoq = Sqrt(2.D.S/H.Unitprice) please clarify it

[@bernardoqalopio1262]

is 2 a constant in the formula?

[@thetecheducationx3894]

Yes

[@sapientia23]

Uhhh - this formula doesnt really seem to make sense when you are trying to minimize COGS here. if I sell 20K units a year at $5.5/unit and say 3% for HoldCost and say $2/unit for Cost to purchase. This means = 686 units is ideal Quantity, and then 20K/686 means 29 orders a year???? Yeah --- ok... I would be ordering nonstop.

[@gustavomatias9958]

EOQQ

[@clarkkent4595]

Make sure is the first

[@edutechguruengineeringlear4280]

Please refer edutech guru engg learning videos

[@JoJo-cw8os]

can i ask what is in-transit inventory cost is?

[@Driveyoursuccess]

+kyaw kyaw tun Hi. I am not certain where I used that line, but anytime you purchase product, you cover a cost of freight to get that part into your warehouse. This is a per-unit cost of freight. You always pay for freight - even if it is hidden in the cost of the product and your customer is telling you they'll give you a delivered price. However, on the opposite end, if you're late to your customer and have to cover freight again, then that's another cost. Sometimes when you do these videos, you use a phrase you probably should not have. I believe the best phrase is incoming freight cost.

[@bilitoc]

Cost of freight in transit to your location becomes part of the price you pay. In this case, it's part of the $20 or added to it.

[@user-ht9ih3oo2n]

why holding costs inventory is $20*3%?

[@tiashkanchan462]

It is an example. Holding cost could be 2% of $20 or 5% of $20. it is usually some percentage of the unit cost.

[@4riffd4niel73]

HADIR

[@demarkruado3681]

How to gets the units

[@edutechguruengineeringlear4280]

Please refer edutech guru engg leaning videos

[@JoyceHaynes-d2x]

Martinez Daniel Davis Brian Williams Michael

[@AngelHam9558]

Sorry. I wonder why 6,000 x 200 not equal to 1,200,000 but equal to 12,000?

[@k2d10tode11]

its actually 2.00. and not 200. dunno why it can be written the way it is, it can be confusing sometimes!

[@ishwar43]

it is not 200 but 2 only

[@JoyceHaynes-d2x]

Davis William Jones Charles Miller Jason

[@JeffreyRodriguez-u6p]

Gonzalez Donna Jackson Jeffrey Williams Barbara

[@diggamoon2433]

im getting 182??

[@KarimBenabd]

No. Divide 12000 by 0.6 gives 20000 Square root 20000 is 141,421

[@Lordnadz]

Why is he using 2

[@Pranishasdiaries]

It is a formula.. 2A*CP/HC

[@danladigift914]

Thank you very much sir, I'm so grateful