Explain What Are Stock Reorder Level, Maximum, Minimum and Safety or Buffer Stock Level, Their Purpose And Formula.

October 14th, 2009 Comments off
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Question:

Explain what is stock reorder level, what is it for and the formula to compute this stock reorder level.

Also explain what is Maximum, Minimum and Safety Stock level

Suggested Answer:

Stock Reorder Level, Purpose & Formula:

Stock reorder level indicates to the stock controller when it is necessary to reorder certain raw materials or components.

The purpose of using this stock reorder level is to enable management to ensure there is sufficient stocks to meet demands from the production department.

Formula=Maximum usage x Maximum lead time

Illustrated Example on how to compute Reorder Stock Level

Company X which is a manufacturer has a maximum usage of 5,000 units of component TX1 per week. The supplier of this component has a maximum lead time of 5 weeks.

Required: Compute the reorder level for component TX1.

Suggested Solution:

Reorder level=Maximum usage x Maximum lead time

= 5,000 x 5= 25,000 units.

MAXIMUM Stock Level

  • To avoid cash being tied up in holding unnecessary high levels of stocks, some businesses set up MAXIMUM level of stocks to be held at any one time. The formula to determine the maximum level of stocks to be held is:

Formula=Reorder level-{Minimum usage x Minimum lead time} + reorder quantity.

Illustrated Example on how to compute MAXIMUM level of stock

Continued from above-reorder stock level is 25,000 units. Say the business has a minimum usage of 1,000 units per week. The minimum lead time is 3 weeks. The reorder quantity is 12,000

Required: Compute the maximum level of stocks of TX1 to be held at any oe time.

Suggested answer:

Maximum level of stock to be held

=Reorder level –{minimum usage x minimum lead time} + reorder quantity

=25,000- {1,000 x 3 } + 12,000 = 34,000 units of TX1

MINIMUM Stock Level

Purpose of keeping minimum stock level is to enable the stock controller to avoid running out stock.

Formula=Reorder level-{average usage x average lead time}

Illustrated Example on how to compute MINIMUM level of stock

Continued from above-reorder stock level is 25,000 units. Say the business has an average usage of 1,200 units per week. The average lead time is 4 weeks.

Minimum level of stock to be held

= Reorder level-{average usage x average lead time}

= 25,000-(1,200 x4) =20,200 units of TX1

SAFETY Stock level

Purpose to ensure that the business NEVER runs out of stock, a safety stock level should be maintained. Safety stocks are also known as BUFFER stock.

Above example, assuming the business required a buffer stock of 2,800 units, then the minimum level  stocks to be held would increase to 23,000 units of TX1

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