Minimum order quantity
Minimum order quantity, or MOQ, is the minimum quantity an item can be bought in at a certain price. Without accompanying a MOQ with a price, the MOQ becomes meaningless.
If I could have you take three things with you after reading this, they would be:
- Is it always possible to order less than the MOQ? YES
- Interpolation can guarantee a maximum cost
- Extrapolation can not guarantee a maximum cost
Simple interpolation example
John wants to sell Adam 10 apples at US$10 each. This corresponds to a MOQ of 10. Adam only wants 8 apples. He proceeds to buy 8 apples from John for US$12.50 each. John gets the same amount of money so he doesn't care. There are two left over apples which can be thrown away or considered a free bonus by Adam.
Company A has a MOQ of 400 sets at €60 each. We can buy 20% less sets than the MOQ for 25% higher cost each. This is called interpolation as we are within the bounds of the given parameters. The 25% increased cost for each set is a worst case scenario (boundary solution) and guaranteed that it can't get more expensive when we decrease the size of the order to 20% less than the MOQ. This boundary solution happens and only happens under the condition that there are only fixed costs involved, and no variable costs. The decreased number of sets which needs to be made does not affect the cost for Company A and the loss from these has to be distributed in its entirety to the remaining sets. If 400 sets costs €60 each. 300 sets can at the very most cost €80. 200 sets can at the very most cost €120 etc. When this condition isn't met, which means there are variable costs, the cost per set can only be lower, hence, we have guaranteed a maximum price.
Now moving on to extrapolation, which isn't allowed.
Example: John still has a MOQ of 10 apples at US$10 each. Adam believes he can buy 20 apples at US$5 each.
This is true and only true under the condition that there are no variable costs. This means that the cost for more items doesn't change as the items carry no variable cost and only the fixed cost has to be paid for. When this condition isn't met, which means there are variable costs, then we know that that the price will be higher. We can thus not guarantee a maximum price in this case
What have we learned
- It is possible to order less than Minimum Order Quantity. Don't get hung up on the word "Minimum".
- We can through interpolation calculate a theoretical maximum cost as long as we interpolate.
- We can't calculate a theoretical maximum cost which we are certain that the cost will stay below through extrapolation.