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Reorder at 450, order a thousand at a time

With average daily usage of 50 units, a lead time of 7 days and safety stock of 100 units, the reorder point is 450 units. At an annual demand of 10,000, an ordering cost of ₹100 and a holding cost of ₹2 per unit per year, the economic order quantity is 1,000 units — giving 10 orders a year.

Two decisions, answered separately: when to order, and how much.

When to order

Reorder point = (average daily usage × lead time) + safety stock (50 × 7) + 100 = 350 + 100 = 450 units

The logic is that you will consume 350 units during the seven days the supplier takes to deliver, so ordering when stock falls to 350 would leave you at exactly zero on arrival — with no margin for a late delivery or an unusually busy week. The safety stock of 100 units is that margin, worth two extra days of cover here.

Sizing safety stock is a judgement between the cost of holding it and the cost of running out. Where demand is volatile or lead times unreliable, more is warranted; for a cheap item with a catastrophic stockout cost, considerably more.

How much to order

The economic order quantity balances two opposing costs. Ordering frequently in small quantities means low holding costs and high ordering costs; ordering rarely in large quantities reverses it. EOQ finds the minimum of the total.

EOQ = √(2 × annual demand × ordering cost ÷ holding cost per unit per year)

√(2 × 10,000 × 100 ÷ 2) = √1,000,000 = 1,000 units

At that quantity, orders per year = 10,000 ÷ 1,000 = 10, and the average inventory held is half the order quantity — 500 units, costing ₹1,000 a year to hold, exactly matching the ₹1,000 spent on ten orders. That equality is not a coincidence; it is the condition EOQ solves for.

The costs that go into it

Ordering cost is everything incurred per order regardless of size: raising the purchase order, supplier communication, receiving and inspection, invoice processing, and inbound freight where it is charged per shipment.

Holding cost is everything incurred per unit per year for keeping stock: warehouse space, insurance, the capital tied up (usually the largest component, and the most often forgotten), obsolescence, damage and pilferage. A common rule of thumb puts total holding cost at 20–30% of the item's value annually.

Getting holding cost wrong is the usual reason an EOQ result looks implausible. If capital cost is omitted, holding cost is understated and EOQ comes out too large.

Where the model's assumptions bite

EOQ assumes constant demand, fixed lead time, no quantity discounts and no stockouts. Real purchasing departs from all four.

Quantity discounts in particular can make a larger order genuinely cheaper despite higher holding cost, and the comparison must then be done explicitly at each price break rather than by formula.

Seasonal demand breaks the constant-demand assumption entirely — for such items, plan by season rather than by EOQ.

Perishable goods have a holding cost that is effectively infinite past their shelf life, so EOQ must be capped by it.

Treat EOQ as a starting point that identifies roughly the right order size, then adjust for discounts, minimum order quantities, pack sizes and shelf life.

Reading the result

Reorder point is the operational figure — set it as an alert in your inventory system and the ordering decision becomes automatic.

Orders per year is a useful sanity check. Ten orders a year is one roughly every five weeks, which is practical. If the formula suggests 200 orders a year, ordering cost is probably understated; if it suggests one, holding cost probably is.

Common mistakes

Omitting capital cost from holding cost. It is usually the largest component.

Ignoring quantity discounts. They can outweigh the EOQ result.

Using EOQ for seasonal or perishable items. The assumptions do not hold.

Setting safety stock by feel. Base it on demand variability and lead-time reliability.

Forgetting to update as demand changes. Both figures drift as the business grows.