The Inventory Turnover Ratio, or ITR (a.k.a. Here’s why inventory turnover ratio is important and how to calculate it. Investors will divide the COGS by average inventory to determine the inventory turnover ratio.If your small business has inventory, knowing how fast it is selling will help you better understand the financial health of your business. Remember that COGS is found on the income statement and inventory is found on the balance sheet. Still, investors can often calculate it using the publicly available reports. Investors looking to find the inventory turnover ratio may not find it directly from the company’s public data. This suggests a strong business model with good products, marketing, and sales practices. Ultimately, the turnover ratio tells investors whether or not a company is effective in converting inventory into sales. Investors usually prefer companies with high turnover ratios because it means that the company is selling a lot of product and needs to replace it often. The inventory turnover ratio is important to investors because it indicates how often goods are sold. Tip: The less time the inventory is on hand, the better this indicator is when reviewing a company’s strengths and weaknesses. Doing so tells us that the inventory is on hand for an average of 73 days. Then, to get an idea of how often inventory needs to be replaced, divide the ratio into the time period (usually 365 days). Using the formula for inventory ratio, divide the COGS by the average inventory. Take XYZ fictional company with $500,000 in COGS and $100,000 in average inventory. How To Calculate Inventory Turnover: ExampleĪn example will help show how the inventory ratio is calculated. But this is just one indicator among many that investors should use when considering a stock purchase. Tip: Companies that are moving a lot of product are generally thought to be in a better financial position than those not moving product. A company with weak sales may have difficulty moving inventory and may be left with overstock issues or dead stock that isn’t selling.
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