August 2, 2023

# What is Inventory Turnover Ratio? | Formula + Calculator

Discover the Inventory Turnover Ratio - its formula and how to calculate it with our efficient online calculator. Optimize your inventory management and boost profitability with key insights. Unlock the power of data to make informed decisions. Explore now!

Your inventory turnover ratio is a good indicator of how well your inventory is managed. It shows how well inventory is purchased and sold to customers.

Whether you store your inventory or make use of third-party logistics (3PL), understanding your inventory turnover ratio can help you make better inventory management decisions to increase efficiency and effectively manage cash flows.

Read on, to find out all you need to know about inventory turnover ratio and how it is calculated and interpreted.

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## What is Inventory Turnover?

Inventory turnover, measured by a ratio shows the number of times inventory is sold and replaced within a certain period. Knowing your average inventory turnover can tell you how well your business is performing.

However, the inventory turnover ratio is only useful when comparing it to other companies within your industry.

## Inventory turnover ratio formula and calculation

As we already established, an inventory turnover ratio portrays how a business is able to turn its inventory into sales.

The formula used to calculate the inventory turnover ratio is:

To calculate your inventory turnover ratio, you need to do the following:

• identify the cost of goods sold (COGS) over an accounting period
• Lastly, divide the COGS by the average inventory to find out your inventory turnover ratio.

Let's look at an example. If your cost of goods sold (COGS) for the previous year is \$400,000 and your average inventory was \$100,000, your inventory turnover ratio will be 4.

## What is a good inventory turnover ratio?

Now you’ve calculated your inventory turnover ratio. Is it good? Is it bad? What does a low, high, or good turnover look like?

Well, a “good” inventory turnover ratio depends on what the benchmark in your industry is. It can vary from one industry to the next, so you want to carry out research first.

Once you calculate your inventory turnover ratio, you will need to compare it with other businesses in your industry to find out if it is good or bad.

However, the higher your inventory turnover ratio, the better.

• High inventory turnover ratio: If your inventory turnover ratio is high it could mean that your inventory is being sold effectively. As an ecommerce business owner, it is important to strive for a high inventory turnover ratio. On the other hand, a very high inventory turnover ratio could also indicate a strong demand for your product which requires you to replenish your inventory all too frequently.

• Low inventory turnover ratio: If your inventory turnover ratio is low, it could mean that your sales are weak. There could also be a low demand for your product in the market leading to overstocking.

## How to interpret your inventory turnover ratio

So if your inventory turnover ratio is low, it means that the time taken from when your inventory is purchased to when it is sold is longer.

For example, if your inventory turnover ratio is 1, it means that the inventory was sold and replaced once within that period.

A high inventory turnover rate indicates that inventory is being sold and replaced at a fast pace. Typically, this signifies that your sales performance is healthy. For example, an inventory turnover ratio of 10 within a quarter will mean that your inventory was sold and replaced ten times.

However, having an abnormally high inventory turnover ratio may signify the opposite of healthy. A very high inventory turnover ratio could mean that inventory is inadequate or insufficient which can lead to missed potential sales. In this case, you want to evaluate revenue generated, customer demand patterns, pricing, and other aspects of your business.

## Why should you calculate your inventory turnover ratio?

Your inventory turnover ratio can give you valuable insights to help optimize your operations, increase efficiency and your overall business performance. Here are some reasons for calculating your inventory turnover ratio:

Your inventory turnover ratio shows how fast your inventory is being sold. And the more sales your business makes, the better your business is said to be performing. In other words, you can use your inventory turnover ratio to analyze your sales performance. Typically, a high inventory turnover ratio indicates a healthy business performance.

### Reduce back orders

Calculating your inventory turnover ratio can help you prevent stockouts which reduces backorders. If your inventory turnover is high due to increased demand, you can avoid running out of stock by ordering fast-moving items in large quantities ahead of time. By doing so, you can reduce backorders and keep your customers happy.

Restocking products that are slow to sell can lead to deadstock, leading to increased storage costs and wasted investments. Tracking your inventory turnover ratio can help you know which products to stop restocking altogether and which to reorder in lower quantities.

### Uncover market trends and demand

As you track your inventory turnover ratio over several years or months, you can uncover trends and customer habits which make it easy for you to forecast demand and optimize inventory levels.

## How to boost your inventory turnover ratio

If you find your inventory turnover ratio falling too high or too low, here are some tips to help you regulate it:

### Improving low inventory turnover ratio

Here are some tips to help you improve a low inventory turnover ratio:

A low inventory turnover ratio indicates that your sales are low. And this can be as a result of your marketing. You want to ensure your website is well-optimized with the right messaging and visuals. You also want to ensure that your navigation on both your mobile device and desktop is seamless. Review your product titles and product descriptions. Are they compelling enough? Are your product images high-quality? Do a thorough review of your website and ensure it is well-optimized to attract the right customers and ultimately increase sales.

1. Discontinue poor-performing SKUs

No profit comes with having a wide range of products you can't sell. Some SKUs simply do not sell fast and are unprofitable. Keeping poor-performing SKUs only increases your storage costs and makes your inventory forecast even more challenging. On the other hand, customers may become overwhelmed with too many choices and not bother to buy from you. You want to identify and discontinue SKUs that aren't profitable.

If you are having difficulties selling your inventory, it may be your pricing. Your pricing may be too high for customers within your niche. Consider reducing your price to make your products more accessible. You can negotiate discounts with your supplier to help lower the cost of getting inventory which in turn reduces costs on your customers. To ensure your prices stay competitive in the market, you can invest in a repricing tool.

1. Get rid of excess inventory

You can get rid of your excess inventory by putting them up at lower prices. You can run a flash sale or bundle them up with fast-moving items. You can also offer promotions on those items to increase demand. Alternatively, if you simply can't sell them, you can offer them as freebies or donate them to charity.

1. Store excess inventory separately

One solution to a low inventory turnover ratio is to store short-term and long-term inventory in separate storage facilities. You can store slow-selling inventory in less-expensive storage facilities to reduce excess costs.

1. Invest in an inventory management software

With inventory management software, you can track inventory, monitor your inventory turnover over a period of time and get analytics that helps you track deadstock and forecast demand.

### Improving high inventory turnover ratio

If you find that your inventory turnover ratio is abnormally high, here are a few tips that can help:

An unusually high inventory turnover ratio indicates that you have insufficient stock relative to customer demand. Improving your demand forecasting can help you monitor sales to prevent backorders and meet customer demands. For effective demand forecasting, you can invest in good inventory management software.

#### Increase SKU levels

If you discover that you run out of stock and consistently replenish a particular SKU, you can consider increasing the quantity you order.

You can invest in inventory management software to take the stress out of reordering inventory. If you find that you are reordering inventory too frequently, there is inventory management software that can send reorder notifications when your inventory reaches a certain threshold.

### Conclusion

Inventory turnover ratio is a useful metric that can help you track your business performance, manage your inventory effectively, meet customer demands and increase sales. Just like any other metric, calculating your inventory turnover ratio should be a continuous analysis. It is important to calculate your inventory turnover ratio frequently to ensure you are maximizing cash flow and meeting customer demands consistently.