Imagine you run a small factory. Every time you place an order for raw material, you pay a fixed cost — courier charges, paperwork, inspection fees. But if you order too much at once, you're stuck holding mountains of stock, paying for warehouse space and insurance. Economic Order Quantity (EOQ) is the magic number that finds the sweet spot — the order size where your total inventory cost is the lowest possible.
The EOQ formula is: EOQ = √(2 × A × O ÷ C), where A = Annual consumption (units), O = Ordering cost per order (₹), and C = Carrying cost per unit per annum (₹). If carrying cost is given as a % of unit price, first convert it: C = % × Price per unit. The formula comes from minimising the Total Cost function — and the beautiful insight is that at EOQ, total ordering cost exactly equals total carrying cost. Examiners love asking you to verify this.
A few things to remember: Average inventory held = EOQ ÷ 2 (assuming stock is used evenly and replenishment is instantaneous). Number of orders per year = Annual demand ÷ EOQ. Total cost = Ordering cost + Carrying cost = (A/EOQ) × O + (EOQ/2) × C. This is frequently asked as a 5–8 mark question — either as a standalone calculation or embedded in a purchase decision (buy in bulk vs. EOQ). When carrying cost is given as a percentage of purchase price, and a quantity discount is offered, you need to compare Total Cost including purchase price at EOQ vs. at the discounted quantity — that's the extended variant. Stick to the base formula first; get it right, then handle the discount variant.