Small business stock control techniques – Economic Order Quantity (EOQ)
In our latest two blog articles we have explored the small business stock control techniques of First in First Out (FIFO) and ABC Analysis. In this blog, we take a look at Economic Order Quantity (EOQ) as a method to manage your inventory.
What is Economic Order Quantity (EOQ)?
In small business stock control, EOQ is the order quantity that minimises the total cost of stock when the cost of stock includes:
- Holding cost
- Order costs
- Shortage costs
EOQ is a technique used to continually review your business management software and the small business stock control measures that you have in place. Inventory levels are monitored and a fixed quantity is ordered every time stock levels reach the specified re-order point.
This stock management technique provides a formula for calculating your optimal re-order quantity to ensure the timely replenishment of stock. With this method you will know how much stock to keep on hand, what quantities to re-order and when to re-order (to minimise the cost of stock).
This all sounds great but this EOQ technique does have some limitations for small business stock control. EOQ assumes that the demand for a stock item is constant throughout the year and doesn’t acknowledge seasonal fluctuation. For many businesses this is problematic and is usually not suitable for businesses where demand fluctuates significantly throughout the year.
It also assumes instant replenishment of inventory which means it’s not relevant for businesses where stock items are slow-moving and high value.
Businesses who do not have seasonal fluctuation may choose EOQ to find the optimal balance between holding costs and order costs. Ordering a large quantity of stock items all at once will increase your holding costs but making more frequent orders at lower quantities will increase the costs associated with placing an order such as freight and insurance. EOQ is great at solving this problem.