Why are Inventory Turnovers important?

What is Inventory Turnovers?

The Inventory Turnover Ratio is a ratio used to measure the sales performance of products. It measures the change in inventory over a specified period, allowing companies to calculate how many days it will take to sell their products. It also helps companies make better decisions regarding pricing, production, marketing, and purchasing in the next sales cycle.

How to calculate the Inventory Turnovers Ratio

Calculating the inventory turnover ratio requires data from the same time period, usually in years or months, and the resulting value will be expressed in units of multiples (or ratios)

Cost of goods sold (COGS) refers to the costs incurred to acquire the company's goods or services, such as raw materials and wages.

Average value of inventory refers to the average of the company's inventory over the entire year or month, calculated by adding beginning and ending inventory and dividing by two.

Analyzing the Inventory Turnovers Ratio

High inventory turnovers mean the company has a high ability to sell its inventory, or it may indicate low inventory levels. This helps reduce the amount of capital tied up in inventory, maintaining the company's liquidity and protecting against risks from spoilage, damage, theft, or obsolescence.

Low inventory turnovers mean the company has a low ability to sell its inventory, or it may indicate a large amount of unsold inventory, which can negatively impact the company's liquidity and increase the risk of damage, obsolescence, and expiration of goods.

Industries with relatively low product costs and prices typically have high Inventory Turnover Ratios because they produce a large volume of goods

A high Inventory Turnover Ratio isn't always a good thing. Having a large amount of inventory can be beneficial in certain situations, such as when there's a shortage of a particular item or when high inventory levels affect the ability to borrow money from banks

Industries with high product costs and prices typically have low Inventory Turnover Ratios. This is because high product prices lead to customers taking longer to make purchasing decisions, resulting in large amounts of unsold inventory

To assess whether an Inventory Turnovers Ratio is performing well, it needs to be compared to the industry average to see if it is higher or lower than companies in the same industry

For in-depth analysis, it's common to look at product groups or individual products to see the turnover rate of each product group or category sold by the company. This involves analyzing inventory turnover trends to see how promotional or marketing campaigns affect inventory turnover, and whether they increase turnover, thereby assessing the effectiveness of the marketing efforts.