An inventory turnover ratio is an asset turnover ratio or rather a percentage that depicts the monetary relationship between sales and the inventory. The inventory turnover ratio is a cost accounting concept that depicts the total number of times the inventory is sold during one accounting year.
The inventory turnover ratio is calculated by the dividing Total cost of sold goods by the Average inventory of the period.
Inventory Turnover Ratio = Total cost of sold goods (sales) / Average inventory of the period.
There are several things to keep in mind when calculating turnover rates:
- Only consider cost of goods sold from stock sales which are filled from warehouse inventory. Non-stock items and direct shipments are not included.
- The cost of goods sold figure in the formula includes transfers of stocked products to other branches and quantities of these products used for internal purposes such as repairs and assemblies.
- Inventory turnover is based on the cost of items, not sales dollars.
In general, the higher your inventory turnover ratio, the better. It means that you have less cash tied up in inventory to support a given level of sales.
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