Stocks are often also known as inventories. They are anything which a firm has which is not currently being used for one of the firm's functions. Most departments in the company will have stocks of something. The factory may have stocks of raw materials ready to produce, the office may have stocks of stationery and the warehouse may have stocks of finished goods.

Stocks are vital to a company to help it function smoothly. If production had to be stopped every time the firm ran out of raw materials, the time wasted would cost the firm a fortune. If a shop had no stock on the shelves, customers would soon desert them. The same is true of most areas the firm operates in - I am sure you can appreciate the importance of planning ahead and having suitable levels of stocks.

Stocks are considered to be current assets because many types of stocks can be converted into cash reasonably readily - particularly stocks of finished goods. However, they are generally the least liquid of the current assets. At times of recession or similar it may be very difficult for the firm to sell stocks, and so although they may be listed as a certain value their true value may be lower. The other current assets are debtors and cash.

Stock Control Methods

Stocks may be held for a variety of reasons. They may be stocks of raw materials ready for production, they may be work-in-progress (production part way through the production process) or they may be stocks of finished goods. Whichever they are it is vital for the firm to control the level of stocks very carefully. Too little and they may run into production problems, but too much and they have tied up money unnecessarily.
The main theories about stocks then are to do with stock control. There are various different ways to approach stock control:-

• Fixed re-order stock level
• Fixed time re-ordering
• Economic order quantity
• Just-in-time

FIXED RE-ORDER STOCK LEVEL
This method of stock control is where a business decides the minimum level of stocks it can tolerate, and then re-orders before the stocks reach this level. The exact timing will depend how long the stocks take to arrive. This can be illustrated as follows:-
The distance between the re-order line and the minimum stocks level depends how long it may take for the order to arrive - this time is known as the lead time.
Fixed time re-ordering
This method is exactly as its title suggests. The firm re-orders stocks at a fixed time each month or week. It can offer a good solution as it represents a routine for the firm and ensures that stocks are regularly supplemented. However, it may well mean the level of stocks fluctuating quite a bit depending on the rate they are used up. It is a little inflexible as a system as well unless used very carefully.
Economic order quantity
For any company there is an optimum level of stocks. The precise level of this will vary in different firms and industries. They have to balance the costs of holding stocks (the space taken, the money tied up etc.) with the costs of ordering stock. The more firms order at once, the better the deal they will usually get.
The level of stocks that strikes the balance between these two things is known as the Economic order quantity. If this is taken to be the optimum level of stocks it should help to minimise the firm's costs - an important pre-requisite to maximising profit.
Just-in-time production
Because stocks cost so much to keep, another method of stock-control was developed in Japan and has now become much more common in the UK. The just-in-time method involves keeping stocks to an absolute minimum, and the raw materials are ordered only when they are needed. In other words just-in-time. This time period in some cases has been reduced to minutes or hours, and the raw materials arrive on site moments before they are needed.
This can be wonderful for helping to reduce the need for working capital, but requires a very high level of organisational skill and a very close relationship with suppliers.

Stock Turnover Ratio

To analyse stocks a little further it is possible to use ratio analysis. The STOCK TURNOVER RATIO shows how many times over the business has sold the value of its stocks during the year. It is calculated by:-

STOCK TURNOVER RATIO =	Cost of goods sold  Stocks

The higher the stock turnover the better, because money is then tied up for less time in stocks. A quicker stock turnover also means that the firm gets to make its profit on the stock quicker, and so the firm should be more competitive. However, it will vary between industries and so it is important to compare within an industry.

It is also possible to express the ratio as a number of days, which is sometimes an easier way to understand it. To do this use the following formula:-

STOCK TURNOVER RATIO (in days) =	Average Stocks  (Cost of goods sold/365)

The result of this ratio gives the "number of days that on average money is tied up in stocks". The longer this is, obviously the worse this is for the business as the money is not available to be used elsewhere. Since the stock is part of theworking capital it is important that it is available for use promptly.