Stock Level (Maximum, Minimum, Re-order, Average and Danger Level) | Free Cost Accounting Articles

Stock Level

Stock Level

Stock levels are the technique that fixes the stock control level in terms of quantity for ensuring the optimum quantity of materials purchased and stored. This raises the questions of when to buy and from where to buy and helps the management while preparing the budget and schedule of purchases.

1. Maximum Level

It is the quantity of material beyond which a firm should not exceed its stocks. If the quantity exceeds the maximum level limit then it will be termed as overstocking. A firm avoids overstocking because it will result in high material costs. Overstocking will lead to the requirement of more capital, more space for storing the materials, and more charges of losses from obsolescence.

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This level of stock indicates the maximum figure of inventory quantity held in stock at any time. The quantity of stock should not exceed the level.

The following factors should be considered while fixing the maximum level of various stocks.

  1. Re-order level:- The product of maximum consumption of inventory item and its maximum delivery period.
  2. Minimum Consumption:- Minimum Consumption and minimum delivery period for each stock should be known.
  3. Adequacy of working capital:- It should know to maintain maximum level of inventory.
  4. Storage space:- It should be stored properly in stores.
  5. Additional storage cost:- Cost required for additional storage should be considered. Additional insurance cost should be considered.
  6. Regular supply:- In case of importance materials due to their irregular supply, the maximum level should be high.

Maximum Stock Level Formula:
Maximum Stock Level = Reordering Level + Reordering Quantity – (Minimum Consumption x Minimum Reordering period)

2. Minimum Level

This represents the quantity that must be maintained in hand at all times. If stocks are less than the minimum level, then the work will stop due to a shortage of materials.

The minimum level shows the lowest figure of inventory balance, which must be maintained in hand at all times so that there is no stoppage of production due to non-availability inventory. This level is possible to maintain a fixed level after taking into consideration the rate of consumption and the time required to acquire sufficient material to avoid dislocation of production.

The following factors should be considered while fixing the minimum level of various stocks.

  1. Re-order level:- The product of maximum consumption of inventory item and its maximum delivery period.
  2. Average rate of consumption:- Average rate of consumption for each inventory items.
  3. Maximum consumption and maximum delivery period:- in respect of each item to determine its re-order level.
  4. Average re-order Period:- to each item. This period can be calculated by averaging minimum and maximum period.

Minimum stock Level Formula:
Minimum stock Level = Re-ordering Level – (Normal/Average Consumption x Normal/Average Reorder Period)

3.Reorder Level

When the quantity of materials reaches a certain level then fresh order is sent to procure materials again. The order is sent before the materials reach the minimum stock level.

The reordering level is fixed between the minimum level and maximum level. The rate of consumption, the number of days required to replenish the stocks, and the maximum quantity of materials required on any day are taken into consideration while fixing the reordering level.

Following factors are considered white maintain this re-order level.

  1. Maximum consumption
  2. Maximum Re-order period
  3. Minimum level

Re-order Level Formula:
Reordering Level = Maximum Consumption Rate x Maximum Reorder period.
OR
=Minimum level + (Normal/Average Consumption x Normal/Average Reorder Period)

4.Average level

It is the level of an average of minimum level and Maximum level. It means the average level is maintained in states.

Average level Formula:
Average stock level = (Maximumlevel+Minimumlevel)/2

5.Danger level

This is the level below the minimum stock level. When a stock reaches this level, immediate action is needed to take for the replacement of stock. If the stock is reached at this level, the normal lead time is not available, and hence regular purchase procedure can not be adopted. This may result in high-cost remedial action only. If this is fixed below the re-order level and above the minimum level, it will be possible to take preventive action.

Danger level Formula:
Danger level = (Average rate of consumption)×Urgent supply time

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