Reorder Level of Stock: Definition
The reorder level of stock is the fixed stock level that lies between the maximum and minimum stock levels. At the reorder stock level, an order for the replenishment of stock should be placed.
In other words, the reorder stock level is the level of inventory at which a new purchase order should be placed.
The reorder level of stock is generally higher than the minimum level to cover any emergencies that may arise as a result of abnormal usage of materials or unexpected delay in obtaining fresh supplies.
Fixing the Reorder Level of Stock
The factors involved when fixing the reorder level of stock include:
- Materials consumption rate
- Margin of safety
- Normal delivery time (or lead time)
- Minimum stock level to be maintained
- Cost of storage and interest on capital used in materials
- Provision for emergencies (e.g., supply chain disruptions)
Formula for Reorder Level of Stock
The reorder level of stock is calculated using the following formula:
Reorder level of stock = Maximum consumption per day/per week etc. x Maximum delivery time
Another formula that can be used is:
Reorder level of stock = Minimum stock + Average consumption during normal delivery time.
Choosing which formula to use depends on the information you are given in a problem.
When calculating the reorder level of stock, it is worth noting that it is revised periodically by considering the factors that are likely to change supply and demand for goods.
This example shows how to calculate the reorder level of stock.
For a company, the maximum consumption is 15,000 units per week, while the maximum delivery time is 10 weeks.
The formula for the reorder level of stock is the following:
Re-order Level = Maximum per day/per week etc. x Maximum delivery time
Therefore, the calculation can be performed as follows:
15,000 units x 10 weeks = 1,50,000 units.
Ordering Level and Minimum Stock Level
Some accountants do not differentiate between the ordering level and the minimum stock level, but others draw a distinction between the two.
The ordering level is lower since, when it is fixed, no allowance is made for the margin of safety.
The difference between the concepts is illustrated in the following diagram.
In the above diagram:
- CD = Minimum stock (or safety stock)
- E = Reorder point
- DE = Lead time usage (consumption of materials during the time taken to procure fresh supplies)
- AB = Economic order quantity, which is ordered when stock falls to point E. When the stock level falls to point F, the next shipment arrives, thereby increasing stock to point G.
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