The inventory turnover ratio measures how many times a company has sold and replaced its inventory over a period. It's a crucial indicator of efficiency. A high ratio is good, while a low ratio can signal overstocking.
How to Calculate It
The formula is: Inventory Turnover = Cost of Goods Sold (COGS) / Average Inventory
- COGS: Find this on your Profit & Loss statement.
- Average Inventory:
(Beginning Inventory + Ending Inventory) / 2.
A Simple Example- Your COGS for the year was 800,000.
- Your Average Inventory was 200,000.
Your Inventory Turnover is 800,000 / 200,000 = 4.
This means you sold and replaced your entire inventory 4 times during the year.
Why Does It Matter?
- A High Ratio suggests strong sales. But if it's too high, it might mean you're under-stocking.
- A Low Ratio indicates weak sales or overstocking.
Using an inventory system to track your COGS and inventory values makes calculating this vital KPI easy.
