For those who are new to the concept of inventory turnover, let me start by explaining what inventory turnover is. Inventory turnover reflects how often your inventory is sold and re-purchased (turned over) within an accounting period. The formula is Inventory Turnover = Cost Of Goods Sold / Average Dollar Value of Inventory On-hand. Turning inventory fast is good for cash flow and profits.
Here is an example; (these figures are made up to make the math easy). Let us say you buy a table for $1000, and you plan to sell it for $2,000. Tables are not selling well, and it takes you one year to sell the table for $2,000. Your gross profit is $1,000 on your inventory investment of $1,000. But, let us say you sell the table in six months for $2,000, re-invest your original $1,000 into another table, which you sell six months later. You have turned your table inventory twice. Your inventory investment has remained at $1,000, but now in the same period (one year) you have made $2,000 gross profit on your original $1,000 investment. The key here is to turn your inventory as fast as possible. That way, you get a bigger return on your inventory investment.
You can use this calculator to figure turns for your inventory as a whole, or for individual departments. Here are the instructions for use; in the directions I am calculating annual turnover.
- Enter the cost of goods sold for the year. Usually, this will be a line-item on your income statement. If you don’t have that number, you’ll have to add up the wholesale costs of all the items you want to include in the calculation.
- Enter the average wholesale value of your entire inventory for the year. To do this, add together the ending inventories for each of the 12 months and divide by the number of months in the time
Cost of goods sold: $100,000
Average inventory: $50,000
INVENTORY TURNS: 2