However, if it is a company that sells high-ticket items, such as cars or houses, a lower ratio might make more sense. If XYZ Company is a bookstore, this number would indicate that it has poor inventory control, which means the purchasing department is not in sync with the sales department. Determining whether this is a low or high ratio depends on the type of business. 31 ratio means XYZ Company sold only about a third of its inventory during the year. The inventory turnover ratio for XYZ Company is calculated as follows: XYZ Company had the following results last year: Example 1: Inventory Turnover Ratio for XYZ Company We also included a brief explanation of what the inventory turnover ratio means for the business. In this section, we will demonstrate how to calculate inventory turnover by walking through a few examples.

The key is to find out what the standard ratio is for your industry so that you can compare your ratio to similar businesses. In contrast, car manufacturers have a low inventory turnover rate because they sell high-value items that take time to produce. It can also imply weak sales or possibly excess inventory, or even that there is an issue with obsolete goods being offered for sale.įor example, grocery stores typically have a higher inventory turnover ratio because they sell lower-cost products that can spoil quickly. A low inventory turnover ratio could mean a business does a poor job of managing its stock.The speed at which a company can sell inventory is an important measure of business performance. While it can reflect strong sales, it could also be a signal of insufficient inventory on hand which could lead to lost business. Generally, but not always, a high inventory turnover ratio indicates that a business manages its stock very well.A comparison to your industry can help you to determine if your turnover ratio is good or needs improvement. Similar to other financial ratios, the inventory turnover ratio is only one piece of information about a company’s ability to manage its inventory. $40,000 / $15,000 = 2.67 How To Interpret the Inventory Turnover Ratio Inventory turnover ratio = COGS / Average inventory Inventory Turnover Ratio Example: ABC CompanyĪs shown in the example above for ABC Company, you would calculate the inventory turnover ratio by dividing $40,000 (COGS amount) by $15,000 (average inventory) for a total of 2.67. The inventory turnover ratio is calculated as follows: The average inventory for ABC Company is calculated as follows: Let’s assume the balance sheet for ABC Company as of January 1 shows a beginning inventory of $10,000 and an ending inventory of $20,000 as of December 31. You can run a balance sheet report to get your inventory numbers. However, if your inventory does not fluctuate a lot, use the ending inventory instead. Note that because inventory fluctuates for many companies throughout the year, using the average inventory for the period-rather than editing inventory-to calculate your ratio tends to be more accurate.

The formula to calculate average inventory is:Īverage inventory = (Beginning inventory + Ending inventory) / 2 The most common cost-flow assumptions are average cost, first-in, first-out (FIFO), last-in, first-out (LIFO), and specific identification. Determining the cost of beginning and ending inventory can be difficult to do by hand and requires a cost-flow assumption.

Inventory turnover ratio formula days