Simply put, the inventory turnover ratio measures the efficiency at which a company can convert its inventory purchases into revenue. If inventory lingers unsold, you tie up money in storage costs, insurance, and the risk of obsolescence. Conversely, if inventory sells very quickly (a high turnover ratio), you may turn inventory into cash fast, but you must ensure you don’t run out of stock too often. An annual inventory turnover rate of 6.4 means that you’re completely replacing your inventory around 6 times a year, or roughly every two months.
Inflexibility Across Industries and Business Models
While the inventory turnover formula is a useful metric for assessing inventory efficiency, it should not be used in isolation. Businesses should consider additional factors such as profit margins, demand forecasting, stock management policies, and financial health for a complete picture. To use the inventory turnover template, enter your product information row by row. Payroll Taxes Then, enter your inventory values, COGS, turnover target, and reorder information. The sheet auto-calculates your average inventory, turnover ratio, and performance against targets to give a product-level view of your inventory. It’s not just about how fast inventory moves — it’s how well that pace fits the broader business model.
Subscribe to Tracey’s INVENTORY MANAGEMENT newsletter.
A company that sells cell phones obviously will not have an inventory turnover ratio that is meaningful compared to a company that sells airplanes. A large value for inventory days means that the company spends a lot of time rotating its products, thus taking more time to convert them into cash to sustain operations. Conversely, if a company needs fewer days to get rid of its inventory, it will be in a better financial position since the cash inflows will be more robust.
- Maintaining a balanced turnover rate ensures you have enough inventory to meet customer demand without the negative effects of overexerting your supply chain.
- Considering the inventory turnover ratio in the context of a company’s history and goals is always important.
- A lower ratio suggests sluggish sales, too much stock on hand, or both.
- Inventory turnover is usually calculated as Cost of Goods Sold (COGS) divided by Average Inventory.
- First, you should adjust your inventory acquisition rates to better meet customer demand.
Enables You to Calculate Retail Prices Accurately
On the contrary, a low value indicates that the company only processes its inventory a few times per year. A company that sells toys, for example, might ramp up stock in the fall and sell through most of it in December. The numbers might look skewed in October — low turnover, high inventory — but zoom out to annual figures, and you’ll see a deliberate, seasonal strategy at work. That would mean chairs were sitting around for months before selling. On the net sales flip side, if the ratio were 10, it might mean you’re selling fast but cutting it close on inventory.
Days Inventory Outstanding provides insight into how long inventory sits before being sold. Need help establishing your business or want guidance on business registration? Schedule a consultation with our expert team at Business Initiative to discuss business registration and formation services. Strictly Necessary Cookie should be enabled at all times so that we can save your preferences for cookie settings. Additionally, explore volume discount bundles for selling multiples of the same item, such as buy-two-get-one-free deals that offer consumers more value. This situation can overextend your resources and disrupt operational efficiency, negatively impacting customer satisfaction.
When to Use the Inventory Turnover Calculator?
Take your learning and productivity to the next level with our Premium Templates. Access and download collection of free Templates to help power your productivity and performance.
- With a cloud-based solution, you can also analyze your inventory data anywhere, at any time.
- In plain terms, it measures how quickly goods move through your business.
- The Smartsheet platform makes it easy to plan, capture, manage, and report on work from anywhere, helping your team be more effective and get more done.
- You may be wondering why I use accounting information for this formula instead of just cancelling out the cost per unit from the formula and calculating turns as # unit sold / # units in stock.
- Most companies measure inventory turns on an annual or quarterly basis.
A higher inventory turnover ratio typically improves financial performance by reducing holding costs and freeing up cash that can be used elsewhere. Conversely, a low ratio might strain finances due to higher storage costs and potential write-offs for unsold inventory. Some items in your store fly off the shelf, and others collect dust. It’s vital—and not always easy—for retailers to understand what inventory is moving and how quickly. A high turnover suggests that inventory is sold quickly, which may indicate strong sales or effective inventory management.