Inventory Turnover

What is Inventory Turnover?

Inventory Turnover measures how many times in a given time-period your organization is able to sell its entire inventory. Inventory Turnover is an important efficiency metric and helpful in analyzing pricing, product demand, and of-course inventory purchase and costs. It is also a critical tool when selling perishable goods, where potential of waste is high.

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Two variations exist on the calculation. Although using Sales as the value into which Average Inventory is divided, replacing Sales with Cost of Goods Sold (COGS), generally produces a more accurate result because markup is not factored in. Average Inventory value is calculated by adding the beginning and ending inventory together and dividing by two.

Inventory turnover is an important indicator of the efficiency of your supply chain, the quality and demand of the inventory you carry, and if you have good buying practices. Generally speaking, a higher turnover rate is better, while a lower turnover rate suggests inefficiency and difficulty turning stock into revenue. Each type of industry will have different benchmarks and norms. For instance, a fresh produce supplier will have many more turns than a heavy equipment manufacturer.

Example

A clothing retailer generates $1M in sales each month, with $400K in Costs of Goods Sold (COGS). Beginning of month inventory was valued at $45K and closing at $55K.

Using the Sales method, Inventory Turnover = $1M / (( $45K + $55K ) / 2 ) = 20X per month

Using the COGS method, Inventory Turnover = $400 / (( $45K + $55K ) / 2 ) = 8X per month

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An in-depth article on Inventory Turnover by Marshall Hargrave