Calculation of stock Levels

Stock level refers to the different levels of stock which are required for an efficient and effective control of materials and to avoid over and under-stocking of materials. The purpose of materials control is to maintain the sock of raw materials as low as possible and at the same time they may be available as and when required. To avoid over and under-stocking, the storekeeper must fix the inventory level, which is also known as a demand and supply method of stock control. In a scientific system of inventory control the following levels of materials are fixed.

1. Re-order Level

Concept And Meaning Of Re-order Level
Re-order level is a level of material at which the storekeeper should initiate the purchase requisition for fresh supplies. When the stock-in-hand comes down to the re-ordering level, it is an indication that an action should be taken for replenishment or purchase.

The re-order level is calculated as follows:

Re-order Level= Minimum Level(Safety stock) + (Average lead time x Average consumption)

OR

Re-order Level= Maximum Consumption x Maximum Re-ordering Period

2. Minimum Level Or Safety Level

Minimum level or safety stock level is the level of inventory, below which the stock of materials should not be fall. If the stock goes below minimum level, there is a possibility that the production may be interrupted due to shortage of materials. In other words, the minimum level represents the minimum quantity of the stock that should be held at all times.
The minimum level is determined by using the following formula:

Minimum Level = Re-order level -(Normal consumption x Normal Re-order Point)

Calculation OF Minimum Level Or Safety Stock

Illustration
Re-order Period = 8 to 12 days
Daily consumption = 400 to 600 units
Minimum Level = ?

Solution,
Minimum Level = Re-order Level – (Normal Consumption x Normal Re-order Point)
= 7200 – (500 x 10)
= 2200 units.

Working Notes:

1. Re-order Level = Maximum consumption x Maximum Re-order Point

= 600 x 12 = 7200 units

2. Normal consumption = (Maximum Consumption + Minimum Consumption)/2
   = (600+400)/2 = 1000/2= 500 units
3. Normal Re-order Period = (Maximum Re-order Period + Minimum Re-order Period)/2
   = (12+8)/2 = 10 days.

3. Average stock Level

Average Stock level shows the average stock held by a firm. The average stock level can be calculated with the help of following formula.

Average Stock Level = Minimum Level + (1/2Re-order Quantity)
OR
Average Stock Level = (Minimum Level + Maximum Level)/2

Illustration

Re-order quantity = 2000 units
Minimum Level = 500 units
Average stock level = ?

Solution,
Average stock level = Minimum level + 1/2 x Re-order quantity
= 500 + 1/2 x 2000
= 500+ 1000
= 1500 units.

4. Danger Level

Danger level is a level of fixed usually below the minimum level. When the stock reaches danger level, an urgent action for purchase is initiated. When stock reaches the minimum level, the storekeeper must make special arrangements to get fresh materials, so that the production may not be interrupted due to the shortage of materials.
The formula for calculating the danger level is:

Danger Level = Normal consumption x Maximum re-order period for emergency purchase

illustration,
Daily Consumption = 100 to 200 units
Maximum re-order period for emergency purchase = 5 days
Danger Level = ?
Solution,
Danger Level = Normal consumption x Maximum re-order period for emergency purchase
= 150 x 5
750 units.

5. Maximum Level

Maximum level is that level of stock, which is not normally allowed to be exceeded. Beyond the maximum stock level, a blockage of capital should be exercised to check unnecessary stock. The factory should not keep materials more than the maximum stock level. It increases the carrying cost of holding unnecessary inventory level. It is the opportunity cost of holding inventory.

The maximum stock level can be calculated by using the following formula:

Maximum Level = Re-order Level + Re-order quantity – (Minimum consumption x Minimum Delivery Time)

illustration

Re-order quantity = 1000 units
Re-order Level = 1500 units
Re-ordering period = 4 to 6 days
Daily consumption = 150 to 250 units
Maximum Level = ?

Solution,
Maximum Level = Re-order level + Re-order quantity – (Minimum consumption x Minimum Re-ordering period)
= 1500+1000(150 x 4)
= 1900 units.