Friday, March 1, 2024

Inventory Turnover Ratio: Definition & Formula

Interpreting inventory turnover ratio is an important step in determining the success of a business. By understanding the ratio and its industry benchmarks, you can gain insight into your company’s performance as it relates to inventory use and demand. Balancing order quantities is crucial to prevent excessive stock accumulation. Employ economic order quantity (EOQ) principles to determine the ideal order quantity that minimizes holding costs while meeting demand.

If your inventory turnover rate is low, you might be holding on to too much stock. A higher stock turnover rate suggests that your inventory management approach is more effective at converting stock into cash. On the other hand, a lower rate of inventory turnover number, or ratio, would show the opposite. Either you need to light a fire in the sales team, or you have excess inventory you can’t shift.

What minimum order quantities (MOQs) mean for retailers

This can include materials costs, labor expenses, utilities, and more. So, if your COGS is $90,000, and the average inventory value is $15,000, your inventory turnover is six. Average inventory is the average cost of a set of goods during two or more specified time periods.

  • Excess inventory (overstocking) is the enemy of profit and efficiency.
  • Holding fewer inventory items in stock means less cost of goods sold, leading to lower purchasing and stocking costs.
  • This article will explore the art of higher inventory turnover and provide 14 easy strategies to achieve it.
  • A high ratio indicates that the company is selling its goods quickly while a low ratio implies excess inventory or slow sales.

This prevents stockouts, which results in fewer backorders and more happy customers. Constantly managing inventory effectively and efficiently is vital to the success ecommerce brands. Across your manufacturing, freight, and fulfillment partners can feel like a 24/7 job, balancing supply, demand, capital, space, lead times, and transit times. Meanwhile, if inventory turnover ratio increases as a result of discounts or closeouts, profitability and return on investment (ROI) might suffer.

What is inventory turnover ratio?

Once you have a baseline number to work with, you can adapt your inventory control. In this case, the inventory turnover journal entry definition rate is 0.8 (or 8, for easy reference). You can use a formula to calculate it, giving you an exact number to go by.


Depending on your situation, by increasing your product selection, you may be able to increase your overall sales. This can also help you reach new customers looking for more products. 2) The cost of goods sold figure in the formula includes transfers of stocked products to other branches and quantities of these products used for internal purposes such as repairs and assemblies. To calculate COGS, you subtract opening inventory from closing inventory, and add the cost of purchases during the period (and subtracting any returns or allowances). The average inventory is the mean of inventories computed for a specified financial period.

Learn How NetSuite Can Streamline Your Business

If nothing else, it enables you to figure out your retail prices accurately to ensure optimum profits. This will allow you to track sales and stock levels in real-time and make adjustments accordingly. It also eliminates the risk of human error when managing your inventory.

Ultimately, though, having strong sales and keeping close track of your inventory will help ensure that you have a healthy business with high levels of customer satisfaction. Using inventory management software is essential to optimizing inventory turnover rates. Inventory management software can help wholesalers to manage inventory levels, automate replenishment processes, and track sales trends. This can help to reduce the risk of overstocking, minimize holding costs, and improve inventory turnover rates. One of the most effective ways to increase inventory turnover is by improving forecasting and demand planning, especially with your A and B SKUs.

What Is a good inventory turnover ratio?

Generally, a higher rate of inventory turnover is better, as it suggests sales are brisk and stock isn’t idle. A lower turnover rate can indicate overstocking, perhaps because it’s taking too long for customers to purchase items. Similar to revenue growth, profit margin, and other business metrics, the inventory turnover ratio helps you measure performance and better understand how your products are selling.

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