The ungrateful task of the buyer is to be able to purchase a sufficient quantity of the correct products so that the sales unit has items to sell but, at the same time, not too many products so that the total inventory value will not rise too high. Therefore, the essential question is “How much?”
According to textbooks, the calculation of the optimal order quantity (EOQ – Economic order quantity) is based on the optimization of holding costs and ordering costs. This calculation method, also known as the Wilson Formula, was developed in the 1910s. The formula works in theory and, with specific restrictions, also in practice.
An inherent requirement is that the demand for products remains fairly stable, ordering costs are independent of the batch size and the lead time remains unchanged. In addition, ordering and holding costs should be allocated to each product with sufficient accuracy. However, this presents challenges, because even in a small company there may be several thousand different products. Some products are easy to order and store, whereas others require a more complicated ordering process.
The calculation of an optimal order quantity (and, as a result, the allocation of costs to products) must be revised as often as possible because the company’s operating environment is constantly changing (i.e. new products are launched, old ones are removed, demand for products varies and there are changes in the company’s cost structure).
Even though the Wilson Formula is not a complex one mathematically speaking, it is too difficult for basic buyers, and produces somewhat unreliable results. Buyers, working in the cross-fire of sales and financial administration, must have full confidence in the purchase proposals produced by a system or calculation model. Otherwise, they will rely on a traditional four-function calculator and calculate the order volume manually.
Generally, a company’s purchase process is based on purchase proposals generated by an ERP system. The calculation of purchase proposals uses item-specific control parameters (e.g. order point). The order point can be calculated by adding consumption over the delivery time to the safety stock. The Wilson Formula pays no attention to the safety stock. It can be calculated through the mean deviation in deliveries using statistical methods. However, confidence presents yet again a problem. Does the buyer understand the principle for calculating the safety stock and does the principle produce sufficiently correct results?