EOQ stands for economic order quantity: the order size that minimises the total cost of holding and ordering inventory. It is calculated as the square root of (2 multiplied by annual demand multiplied by cost per order, divided by annual holding cost per unit). Order more than the EOQ and you tie up cash in stock that sits on the shelf. Order less and you place orders too often, racking up ordering costs. The EOQ is the point where those two costs balance.
It matters because inventory is cash you cannot spend. Every unit you hold has been paid for but not yet sold, so over-ordering quietly starves your working capital, while under-ordering risks stockouts and rush fees. EOQ gives you a defensible number to order, which is why it underpins most reorder-point and inventory-planning decisions.
The lowest-cost order size.EOQ is the order quantity where ordering costs and holding costs add up to the least total.
The formula is a square root.EOQ equals the square root of (2 multiplied by demand multiplied by order cost, divided by holding cost per unit).
It is about cash, not just stock.Right-sizing orders frees up working capital that over-ordering would otherwise lock in inventory.
The EOQ formula is the square root of (2DS / H), where D is annual demand in units, S is the fixed cost per order, and H is the annual cost of holding one unit. Holding cost covers storage, insurance, obsolescence and the capital tied up in stock; ordering cost covers admin, delivery and setup for each purchase order. Enter your figures below to see your EOQ and what it costs to run inventory at that level.
EOQ assumes steady demand and fixed costs. General information, not financial advice.
Worked through: a retailer sells 12,000 units a year, pays 50 to place each order and 6 a year to hold one unit. EOQ is the square root of (2 by 12,000 by 50, divided by 6), which is the square root of 200,000, or about 447 units. That means roughly 27 orders a year, and total ordering plus holding costs of around 2,683. Order in batches much larger or smaller than 447 and that total cost rises.
The EOQ is your lowest-total-cost batch size, and it directly implies how often to reorder. Divide annual demand by the EOQ and you get the number of orders per year; divide the year by that and you get the gap between orders. So an EOQ of 447 against demand of 12,000 means ordering about every fortnight. The model also has a reassuring property: the total cost curve is flat near the bottom, so ordering a bit above or below the exact EOQ barely changes your costs. You do not need to hit the number to the unit.
Two forces pull the EOQ in opposite directions, and both are worth knowing when costs change.
Cheaper, easier ordering (such as automated purchasing) lowers the EOQ, so you order smaller and more often.
Pricier holding (costlier warehousing, higher interest on tied-up cash) also lowers it, pushing you to keep less on hand.
Rising demand lifts the EOQ, but only by its square root, so a fourfold jump in demand only doubles the order size.
Higher order costs lift it too, rewarding fewer, larger batches.
EOQ answers how much to order; the reorder point answers when. The reorder point is your average daily demand multiplied by the supplier lead time in days, plus a safety-stock buffer. So you use the EOQ to set the order size and the reorder point to trigger the order when stock drops to that level. Together they turn inventory from guesswork into a simple rule: when you hit the reorder point, order one EOQ. That is the whole logic behind most automated purchasing systems.
EOQ relies on three assumptions that rarely hold perfectly. None of them makes the formula useless; they just make it a starting point rather than a final answer.
The model assumes predictable demand, but real demand is often seasonal or lumpy.
It treats each order as the same cost, but suppliers offer bulk discounts the basic formula ignores.
It assumes a steady cost to hold a unit, while lead times wobble and storage costs shift.
Most planners use the EOQ as an anchor, then adjust. They layer on volume discounts, minimum order quantities, shelf life and a safety-stock buffer for demand they cannot forecast. The biggest practical limit is that EOQ optimises one product in isolation: when you order dozens of lines from the same supplier, consolidating shipments or hitting a free-delivery threshold can beat the per-item EOQ. Treat the formula as a sanity check on order size rather than a rule to follow blindly, and it earns its place. Where it really shines is exposing when your current ordering habits are quietly expensive.
Bulk discounts are the most common reason to override the basic EOQ. If a supplier knocks the unit price down for orders above a threshold, the right move is to compare the total cost at the EOQ against the total cost at each discount break, including the lower holding cost the cheaper units imply. Sometimes ordering more than the EOQ wins once the price saving is counted; sometimes it does not. The formula still does the heavy lifting by giving you the baseline to compare against, which is exactly why it remains the first calculation most planners reach for.
EOQ is a working-capital tool as much as an inventory one: every unit ordered above the optimum is cash locked in stock instead of available to run the business. Inventory and receivables are the two big places cash hides on the balance sheet. You can right-size inventory with EOQ, and you can shorten how long cash sits in receivables by getting invoices paid faster. Both shrink the cash conversion cycle, the number of days between paying for stock and collecting from customers.
That connection is why finance teams care about EOQ even when they do not run the warehouse. Buying smarter reduces the cash trapped before a sale; collecting faster reduces the cash trapped after one. A business that nails its order sizes but lets invoices drift overdue has simply moved the cash from one trap to another. Strong inventory discipline often shows up as a healthier inventory turnover ratio, and tighter receivables show up in your accounts receivable reporting. Manage both and the same revenue funds far more of your operations without new borrowing.
Don't let these critical mistakes hurt your
collections - See how to fix them, today!
Request an AI summary of Paidnice
