Inventory Management

Inventory management is essential for every business organization. Inventory means material that is used as input for production of finished output or rendering of services or for office use and packaging. It will also ensure preparation of accurate statements of the value of inventory consumed by each department/job and final statements prepared according to their needs.

                                                                                                

Inventory Management

From the inventory management point of view, the following are some important requirements of the effective material control:

  • That no inventory is purchased without proper authority
  • That the quantity of inventory purchased is in fact received
  • That there should be proper storage facilities
  • That no material is issued without proper authorization and the purpose for which the material is required is recorded
  • That the accounts provide a running balance of the value of the inventory on hand
  • Large business have specialized purchase departments for effective inventory control

finance department

 

Purchase Process

purchase process

 

Levels of Inventory

In order to ensure that the optimum quantity of materials is purchased and stock—neither less nor more. The storekeeper applies scientific techniques of materials management. Fixing of certain levels for each item of materials. The following levels are generally fixed:

  • Order level
  • Maximum level
  • Minimum level
  • Danger level

 

Order Stock Level/point

It is also known as Re-ordering level/point in relation with an item of stock. It is the point at which it becomes essential to initiate purchase orders for its fresh supplies. Normally, re-ordering level is a point between the maximum and the minimum stock levels. Fresh orders must be placed before the actual stocks touch the minimum level, so as to take care of lapse in time the placing of the order and the receipt of materials in stores:

Formula 

order level

The maximum consumption: This is the maximum quantity of the material that is expected to be consumed in a day or in a week or in a month time

Lead time: This is the estimated time period in number of days or in weeks or in months, which is necessarily required for placing an order and finally receiving it in the stores

 

Maximum Stock Level

The maximum stock level indicates the maximum quantity of an item of material which can be held in stock at any time:

Formula 

maximum stock level

Re-ordering level: It is the point at which it becomes essential to initiate purchase orders for its fresh supplies. Normally, re-ordering level is a point between the maximum and the minimum stock levels

Minimum consumption: This is the minimum quantity of the material that is expected to be consumed in a day or in a week or in a month time

Lead time: This is the estimated time period in number of days or in weeks or in months, which is necessarily required for placing an order and finally receiving it in the stores

Economic ordering quantity: It is the level where the ordering quantity will be most economical for organization

 

Minimum Stock Level

This represents the quantity below which the stock of any item should not be allowed to fall. In other words, an enterprise must maintain minimum quantity of stock so that the production is not adversely affected due to non-availability of materials:

Formula 

minimum stock level

Re-ordering level: It is the point at which it becomes essential to initiate purchase orders for its fresh supplies. Normally, re-ordering level is a point between the maximum and the minimum stock levels

Lead time: This is the estimated time period in number of days or in weeks or in months, which is necessarily required for placing an order and finally receiving it in the stores

Average consumption: This is the average quantity of the material that is expected to be consumed in a day or in a week or in a month time

 

Danger Stock Level

The danger level is below the minimum level and represents a stage where immediate steps are taken for getting stock replenished. When the stock reaches danger level it is indicative that if no emergency steps are taken to restock the materials, the stores will be completely exhausted and normal production stopped Generally, the danger level of stock is fixed below the minimum level

Formula 

danger stock level

 

Example 1:

What do you understand by maximum stock level, minimum stock level, and re-order level?

Calculate the above from the following data:

Re-order quantity (EOQ)              1,500 units

Lead Time                                    4 to 6 weeks Maximum consumption 400 units per week

Average consumption       325 units per week Minimum consumption 250 units per week

order level example

re-order level example with solution

 

Example 2:

Following is the information provided by the concerned departments about two components Wood and Steel regarding their replenishment and usage:

Minimum usage ………………………………… 25 units per week each

Maximum usage …………………………………75 units per week each

Average usage ……………………………………50 units per week each

material management example

Calculate for each component:

  1. Re-order level             Maximum stock level
  1. Minimum stock level and                                4. Danger stock level

 

inventory control example

 

Example 3:

 In manufacturing its Products, a Company uses three raw materials. A, B and C, in respect of which the following apply on monthly basis.

material control question and solution

Requirements:

(a) Re-order level       (b) Maximum stock     (c) Minimum stock       (d) Danger stock level

 

inventory management solved example