How should a firm estimate production quantities to optimally balance fixed set-up costs and cycle-stock costs?
How should a firm estimate production quantities to optimally balance fixed set-up costs and cycle-stock costs?
Many firms have some degree of economies of scale in their cost structure. When fixed costs - such as those incurred when setting up a process - are spread over many units of output, it lowers the total fixed cost per unit. However, producing large quantities of output requires a large influx of supply and capital, resulting in cycle stocks, which are slowly consumed over time. In this case, students learn the EOQ model, a way to optimally balance the trade-off between the unit cost advantages of producing in large quantities and the capital costs and delays caused by cycle stocks.
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