Where:EOQ = Economic Order Quantity
ACPO = Acquisition Costs Per Order
AUU = Annual Usage in Units
UC = Unit Cost
CCP = Carrying Cost Percentage
So, if you know that it costs you $150 in overhead per order, you use 5,000 widgets a year, you pay $200 per widget, and your Finance Department tells you that annual carrying costs are equal to 20% of the value of the goods in stock, you should order...
Drumroll please...
194 widgets at a time.
I don't often place a link to this blog in my purchasing articles, so if you are reading this blog for the first time, please browse the posts below - I think you'll like them. I post educational and purchasing-related blurbs here about three times per week, so you may want to plan regular visits to this blog. Just remember to go to http://www.NextLevelPurchasing.com/blog, bookmark this page, or, if you're a techie, add this blog to your RSS feed reader using the Site Feed link to the right.
Hope to "see" you back here soon!
UPDATE MARCH 2012: The response to this blog post has been amazing. There is so much to learn about purchasing and inventory management and many people want - or need - to learn more. Therefore, we've created an online course to help everyone who is interested. The online course is entitled "Profitable Inventory Management and Control" and you can learn more about it at http://nextlevelpurchasing.com/inventory-management-and-control.php.
To Your Career,
Charles Dominick, SPSM
President
Next Level Purchasing, Inc.
Struggling To Have A Rewarding Purchasing Career?
Earn Your SPSM Certification Online At
http://www.NextLevelPurchasing.com
Posts
79 comments:
I found your equation very interesting and as a lean thinker I'm trying to see if I can validate it. I'm a little confused about the definition of ACPO = Acquisition Costs Per Order. Can you give me a better idea?
Acquisition costs per order include all costs associated with the life span of the order: the cost of the buyer's time, the cost of the pre-printed form, the cost of sending the order (by fax or mail), an amortized cost of the purchase order system including costs to implement that system, the cost to receive orders, pay invoices, etc.
I thought that was what you meant. In that case, is there an industry standard for this cost? You can imagine the arguments over what these costs are.
Those arguments are exactly why there isn't an industry standard. But these two links cite separate, independent studies that come up with similar numbers:
http://econ.gsia.cmu.edu/ecommerce/economist_1.htm
http://www.infor.com/infor/Industries_Distribution_eComm_940.htm
Those links seem to be too long. Try these:
http://tinyurl.com/wq6y3
http://tinyurl.com/y7a6gs
I have just stumbled upon this blogsite.
I have been challenged by a former school classmate to help look up and advise on the state of the Warehouse of his Engineering Company.
I have spent most of my career in Supply Chain handling Procurement, though I have also undertaken an oversight responsibility of a Warehouse. Can I please request that you volunteer ideas and tips on highlights for my audit?
Here's thanking you in advance for your anticipated professional camaraderie and espirit de corps.
Hi my name is Muhammad from Singapore. I would like to thank u Sir as u really save me. I did not have an idea of the equation for EOQ until i came to your website. I am a final year student with University of Northumbria and i am passing my assignment tommorow. Thanks to u i will have more confidence in submitting it.
You're welcome, Muhammad. Thank you for visiting the blog. Good luck with your assignment.
Hi, I am HM from Malaysia. I've been a purchaser for almost 5 yrs and never thought everything has a formula for it!Thanks Charles! Can I ask what is 'Average Lead Time'?
Lead time is the amount of time between the time that an order is placed and the time that the order is delivered. So average lead time is the mean or average amount of time that you observe over a series of orders for that product or service.
Hi,
Thanks for your valuable information. Can u give me some details of Warehouse manangement, like basic requirement for a new warehouse setup ( Standard rules like fire extinuguisher required for 100 sqft etc) if u able to
Thanks for stopping by the blog. A great resource for warehouse management is our podcast entitled "Should Purchasing Manage The Warehouse?" Check it out at our page for the Purchasing & Supply Management Podcast Series.
I hope that this helps.
Hi, I have found some very useful suggestions and information here. However there is one equation that I cannot figure out. The equation is for maximum SSL under the article "How much inventory is too much?"
Maximum SSL = MHDU x (MHLT - ALT)
For me, it does not make sense. I thought that a more reasonable formula would be SSL = MHDU x MHLT.
Pls enlighten me.
Thanks
Ron
Thanks for your comment, Ron.
SSL is a quantity of goods.
To get a quantity on one side of the equation, you must have quantities on the other side of the equation.
While MDHU is a quantity of goods, MHLT is a number of days not a quantity of goods. Multiplying number of days by usage per day (MHDU) gives you a quantity of goods.
Example: 3 days x 4 units per day equals 12 units over the period of days.
I suggest that you plug numbers into the variables and do the calculation a few times to get a good grasp on how the formula works.
Thanks again!
WHAT DA HELL IS ALL THAT??????????
I CAN WRITE A BETTER EQUATION THAN THAT,,,,,
ANKUT FELLOW CHARLES!!!!!!!!!!!
I didn't invent the EOQ formula...it has been around a lot longer than I've been in purchasing.
If your only variables are acquisition costs and holding costs, it is a very valid formula. In my current research, though, I am finding that it doesn't work all that well when there are other constraints. I hope to invent an alternate formula by the end of the year. Then you can feel free to assail me for a formula you don't like!
thank you very much sir, i got lots of useful information from your web and the formula which you have given for inventory and managment is really very useful and use that in our org , and i do apreciate your hard work and facilitating us .
Thanks
Fara sadat from Afghanistan
You're welcome, Fara Sadat! Thanks for visiting.
I am fresh graduate and currently working to a newly established korean construction company in the Philippines. We don't still have an accounting software to cater the needs of our expanding business because we still in the experimental stage. We spend over Php 500,000 expenses for a month about half came from the operating expense of the office alone. we also don't know how to make an effective inventory management because all we have hired were fresh graduates.
Can you give me any suggestions on how to solve these problems?
Thank you!
Hi Mary Jean,
Electronic accounting is quite essential. We use Quickbooks and it is quite affordable. Microsoft Money, while really geared for home use, can work for a small business if you can't afford Quickbooks. And Excel can even work if you have someone on staff who can set it up properly.
To learn the basics about inventory management, I recommend enrolling in our online class "Mastering Purchasing Fundamentals" (http://www.NextLevelPurchasing.com/fundamentals-purchasing.html) and checking out our list of articles on the topic at http://del.icio.us/supply_chain_articles/inventory
Good luck!
how does the formula changes, when there is a back - order cost involved.
thanks,
Ankit
DEAR
i didn't get the real meanning of EQO and how can i useful from this number, is it like reorder point?
please inform me
you really made me interesting
regardS
Thanks for stopping by, Ankit.
I'd be happy to answer your question. First, can you please clarify what a "backorder cost" means to you?
Thanks for stopping by, Raed.
EOQ is not a reorder point. It represents the quantity you should order when your inventory level reaches the reorder point.
I hope this helps...thanks again!
Hello there, I was wondering I am struggling with my team on what would be the best way code components in a raw material stores?
Hi,with big corporations having customized softwares to manage their stock..could you kindly give me some professional advice on a software I can use to manage my stock outside my office domains when I have to work from home and don't have access to the company's software? I have tried microsoft excel but need something more sofisticated.
Thanks.
Tog
Tog,
The answer to your question depends on a number of things like what inventory system your company uses, what transactions you will need to execute, and, if you use an offline system, how it will be integrated.
I recommend checking with your IT staff to explore this further. Perhaps there is a way to access your inventory system remotely through a VPN.
u give the definition of critical,non critical and insurance items in inventory classification
Hi Sanjay,
Thank you for posting a comment.
Critical inventory items are those items that would have a severe impact on your company and its ability to continue its operations and serve its customers if such items ran out of stock. For manufacturers, this usually means the custom-made components and assemblies as well as raw materials.
Non-critical inventory items are those items that are either readily available (e.g., from one of many local distributors) and/or would not cause a major problem in the event of a stock out.
With regard to insurance items, you may be referring to what is referred to as safety stock. Please see http://www.nextlevelpurchasing.com/articles/safety-stock-calculation.html for more information on safety stock.
as a professor while teaching I am interested to know how the tire concept of inventory management can be dovetailed to drug selection, procurement , distribution in order to be a little more cost effective on ne hand and maintaining regularity of essential drug supply in health care fecilities
Dear Professor:
Inventory management can be applied fairly uniformly to pretty much any industry, including the pharmaceutical industry.
What must be kept in mind with pharmaceuticals, however, is expiration dates. Your order quantity should not result in drugs becoming expired before they are used.
Hi sir...
Really am thankful for you.
im bhuvana from india doing my final year engineering.
ur blogs and ideas about
"inventory management" helps me a lott in my project work.
Thanks a lott sir....
Thanks for your kind words, Bhuvana! Best of luck in your project work.
Dear Charles,
I am Radhakrishnan from India. I have gone through your blog and found quiet interesting. You have explained Safety stocks and EOQ calculation in simple way even layman can understand. I will go through more contents and any query I will get back to you.
Thanks
Thanks for stopping by, Radhakrishnan.
Please help me with the following a)Inventory Managment and Costs
b)Cost reduction measures
c)Vendor developments
e)Inventory Logistics
Hi i am jimmy from India
Hi Jimmy,
There are many free articles on several of the topics you mentioned at http://www.NextLevelPurchasing.com/free.html
hi,
how to adjust the beg.balance. if it is already recorded.?
can u post me lit. review of some other authors on the subject of computerised stock control, defination and meaning,importance,basic computerised stock control system and their recommendation and conclusion
Hi . really intresting & quite useful blogs . can you guide how we can get Certification from you .
Thanks &Regards
Ali .
india
Hi Ali,
For complete information on how to earn your certification through Next Level Purchasing, please visit http://www.NextLevelPurchasing.com/spsm.html
or call us at +1-412-294-1990
or email us at help@nextlevelpurchasing.com
We are ready to assist you!
Good Day!
Is there any formula to get the EOQ using MS Excel, it would be very helpful for me if you can give me an example of the formula on how to get the EOQ using MS Excel.
Thank you very much
Our online course "Microsoft Excel For Purchasing Professionals" can teach you how to create formulas for mathematical equations into Excel. While the course does not contain the EOQ equation or the square root function, it does enable you to independently convert equations into Excel format, giving you independence for success in the future.
You can learn more about Microsoft Excel For Purchasing Professionals at http://www.NextLevelPurchasing.com/classesexcel.html
Economi order quantity (EOQ)basically considers two type of costs as important costs.
Briefly explain these two costs and make a graphical presentaion of the two costs.
Sorry, Perry.
The wording of your request is similar to the wording we receive from people who want to copy material for an academic project. We decline responding to those types of requests. Our policy can be found at:
http://www.purchasingcourses.com/2007/03/assistance-for-academic-projects.html
Hi I am an Industrial Engineer from Bangladesh currently working in a consultancy firm for developing an effective inventory management software for a renowned furniture industry in my country. but as i just passed out from the university this year, i have no practical expertise on this matter. so can u help me in this regard.....
Hello Masud,
Thank you for stopping by.
I suggest starting at my page on delicious.com that links to all of my inventory-related articles - http://delicious.com/supply_chain_articles/inventory
Good luck!
Hello sir i am abhinav from India.I am a B.E(IT)final year student.As dis is my final year,i have 2 make a project. I have choosen "Inventory Management System using Barcode". This IMS is basically for my college. Sir,can you help me in my project work. i will be very thankfull 2 u.....
While Next Level Purchasing does provide some consulting services, as a student you are unlikely to be willing or able to fund a personal, one-on-one engagement with us. However, I can direct you to a link to some free resources that I've developed on the topic of inventory management:
http://delicious.com/supply_chain_articles/inventory
Good luck!
please kinldy helpme out with the importance ofcomputer in stock inventory
I am THomas, just to thank you for this wonderful resource. I really learnt a lot. Please continue with the good work.
Thanks for the feedback, Thomas!
What to do if Acquisition Costs Per Order is Zero?
rrizig,
Acquisition costs are never zero. Even if reordering is automated, there is a cost associated with the systems used to place the orders, cost to receive them, pay the invoice, etc.
hello sir, i am pokhraj and doing my project on inventory management from a cement manufacturing unit.i have used the traditional EOQ formula to calculate the Optimum ordering lot.but the problem is that when i am using the formula to determine the different stock levels of different raw materials,maximum level is having lower volume than reorder level or reorder level is lower than minimum or safety stock level.As raw materials compostion in cement industry is not fixed over the years , so does the EOQ formula suit my project?
Pokhraj, MBA, INDIA
hello sir, i am pokhraj and doing my project on inventory management from a cement manufacturing unit.i have used the traditional EOQ formula to calculate the Optimum ordering lot.but the problem is that when i am using the formula to determine the different stock levels of different raw materials,maximum level is having lower volume than reorder level or reorder level is lower than minimum or safety stock level.As raw materials compostion in cement industry is not fixed over the years , so does the EOQ formula suit my project?
Pokhraj, MBA, INDIA
hello sir,
my name is kushagra, i m interested in knowing that EOQ formula is valid for a sales driven organisation where i work. we generraly face problems in the retail sector material supplies as average lead time is usually high as in a month or so.
any insight on this will be greatly appreciated.
thanks in advance.
Brighter said....
i work in a marine engineering firm in Nigeria as the inventory controller,the company is neck deep in problem of inventory costing.Can you advise me on how to cost this since we deal on spares that are ordered once in a while.
this article is very interesting .
thanks for sharing this.
You're welcome!
I like your article and it really gives an outstanding idea that is very helpful for all the people on web.
I appreciate your post, thanks for sharing the post, i would like to hear more about this in future
I really appreciate your post and you explain each and every point very well.Thanks for sharing information.
Regards:
http://www.blackitsoft.com/inventory-pos-software.aspx
Dear Charles Istill don't understand the general meaning of inventory. Then, in business tems?
Dear OMWANY,
See this definition of inventory from Investopedia: http://www.investopedia.com/terms/i/inventory.asp
Hi Charles,
This is Kaveri. I have been working as an inventory controller for the last 2.5 years. I just stumbled upon this site today and will be hooked into it in future. You have said the basics of purchasing in a very good way, remembering my days of Operations Research class in MBA. Its really good. Will be a regular reader of this blog now. Will get back to you if I have queries.
Dear Mr.Charles,
In inventory management, it is very important to have a knowledge on stock verification. can u please give some ideas.
Hemantha
Hemantha,
There's a good article on that topic at http://inventoryops.com/cycle_counting_and_physical_inventories.htm
i'm a management student and was given EOQ formular as 2times annual demand times soct of polacing an order all divide by the annual holding cost per unit of inventory all is squared..so i dont get your own formular..tanx
Lilian,
The mathematical formula you see above is what you've described. However, it is proper to say "the square root of" the calculation rather than "all is squared." To me, that sounds like you are multiplying the result of the calculation by itself, which is incorrect. Study the above along with your material so that you can get an understanding of how EOQ works.
Hi, im Jef from Malaysia, running my own business. is quite helpful whta you hv brought in. is cant understand mush on the EOQ formulas and the elobarations. could u specify details. TQ send me more adequately on the other formula as well. if u dont mind sharing . tq hv a good day .
Dear Charles;
would you please help me,, I have a Graduation Project but i had some problems as, i want to talk about some people made like my project, by the way my project is "How to model an Inventory" as calculating Reorder point, EOQ, and Safety stock ,so how can i do that.
Regards;
Ahmad
Dear Ahmad,
For detailed explanations of these topics, I suggest that you purchase a copy of my book "The Procurement Game Plan: Winning Strategies and Techniques for Supply Management Professionals."
Thanks Mr.charles for reply,,
after that can you please help me about calculating "Z" that is used in safety stock equation, i have the suppliers lead times is this helpful ??
Ahmad,
There are many, many different variations of safety stock formulas. Which are you referring to?
Thanks for concern;
my equation is
SS=z*Square Root of (Average Demand^2*Standard Deviation of Lead Time^2 + Average Lead Time*Standard Deviation of Demand^2)
,so the definition of "Z" is: Is the score that links safety stock with required service level. so can you please help me to find the value of Z in our firm, by the way that firm produces hygienic paper.
Sorry Ahmad,
That is not one of the safety stock formulas that we teach. We offer a free article on computing a maximum safety stock level at http://www.nextlevelpurchasing.com/articles/safety-stock-calculation.html. We also teach a more complex formula based on desired service level. That will be available in our inventory management online course being released this winter.
Some really great articles on this site, appreciate it for contribution.
Hi,
Nice post. It is very informative for me. Thank you for sharing such a great information about Purchasing and Inventory Management .
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