EOQ Model 1 The EOQ and Extensions

This section is devoted to the Economic Production Quantity (EPQ) model, its specialization to the Economic Order Quantity (EOQ) model and its extension to allow backorders. The next section deals with multiple products. The primary driver to hold inventories is the presence of a fixed production/ordering cost that is incurred every time a positive number of units are produced/ordered. We wish to determine the number of units to produce/order every time the fixed production/ordering cost is incurred. Producing/ordering in large quantities reduce the average fixed production/ordering cost. What prevents the production/ordering quantities from becoming too large is that it costs money to hold inventories. Inventory costs include the cost of storage and insurance and the cost of capital tied up in inventory. The EPQ balances the average fixed ordering cost (that decreases with large orders) and the average inventory holding cost (that increases with large orders). We will assume that demand is constant and continuous over an infinite horizon. We will also assume a constant, continuous, production rate. The objective is to minimize the average cost. Data: