Efficiency indicator
Inventory turnover reveals how quickly a company’s products move from shelves to customers. High turnover signals strong sales or lean inventory, while low turnover may indicate overstocking or weak demand.
Inventory turnover is a financial ratio that measures how efficiently a company manages its stock of goods by showing how many times inventory is sold and replaced over a specific period, usually a year. This metric helps businesses understand the effectiveness of their inventory management and sales strategies, directly impacting profitability and cash flow.
Inventory turnover reveals how quickly a company’s products move from shelves to customers. High turnover signals strong sales or lean inventory, while low turnover may indicate overstocking or weak demand.
Inventory Turnover Ratio = Cost of Goods Sold (COGS) / Average Inventory
Turnover ratios are most useful when compared to industry peers or historical trends, as “good” ratios differ by sector and business model.
Tracking inventory turnover helps optimize pricing, purchasing, marketing, and production strategies, ensuring inventory levels align with demand.
Sum the cost of all goods sold during the period (from the income statement).
Add beginning and ending inventory values for the period, then divide by two.
Divide COGS by average inventory to get the turnover ratio.
Profitability: High turnover cuts holding costs and risk of obsolescence, boosting profits.
Cash flow: Rapid sales cycles release cash for growth initiatives.
Operational efficiency: Indicates effective inventory management and demand forecasting.
Scenario:
Average inventory:
(₹1,55,000 + ₹2,45,000) / 2 = ₹2,00,000
Inventory turnover ratio:
₹5,00,000 / ₹2,00,000 = 2.5
This means the company sold and replenished its inventory 2.5 times during the year.
It usually indicates strong sales and efficient inventory management, but could also signal insufficient stock to meet demand.
It may point to weak sales, overstocking, or poor merchandising. However, in some industries, low turnover is normal due to high-value or specialized goods.
Yes. Extremely high turnover might mean frequent stockouts and lost sales opportunities, especially if inventory levels are too low to meet demand.