If you’re in business, you may have heard of something called inventory turnover. So, what exactly is it and why is it important for business owners? In this article, we explore the ins-and-outs of inventory turnover and how you can improve your inventory turnover ratio to maximise the success of your company.
Essentially, inventory turnover is the number of times a business’ inventory is purchased and sold during the entire financial year. The main reason why inventory turnover rates are important is to determine how successful a company has been in converting their inventory purchases into final sales.
Understanding your inventory turnover rates
The first step in improving inventory turnover rates is to identify and interpret your turnover ratio. The most common formula used to calculate turnover rates is to divide your sales by inventory. A second formula divides the Cost of Goods Sold (COGS) by the businesses average inventory.
While the second method considers the fluctuations in inventory levels throughout the year, with both COGS and inventory recorded at cost, sale in the first formula is recorded at market value.
Once you have calculated your inventory turnover ratio, it is essential to interpret this information in light of industry standards. When analysing your inventory turnover ratio, you should also keep in mind that different cost flow assumptions may result in different inventory turnover ratios in varying scenarios.
Different types of turnover ratio
While a lower inventory turnover ratio may point to a lack of sales or excess inventory, a high inventory turnover ratio generally indicates a healthier level of sales or a healthy level of inventory. The former may predict poor liquidity, overstocking or obsolete stock, while the latter can mean better liquidity, but may also signal inadequate inventory.
Improving ratio with better forecasting
One of the most effective ways to improve your inventory turnover ratio is to improve your forecasting. At this stage, inventory management software is the most reliable option that will help you track, trace and predict sales. With this, you will be able to make better-informed decisions about which items to stock and which items to let go. This will ensure that you are purchasing a healthy amount of inventory and prevent any excess, which can lead to a low turnover ratio.
If you find that your turnover ratio is on the lower end of the scale and you have excess stock, it may be time to offer discounts. For example, you may like to consider a promotion whereby customers can get two-for-the-price-of-one, or where they are offered a discount if they buy in bulk. This will help alleviate some of the strain that comes with an excess amount of inventory, which will help bring up your turnover ratio long term.
Resell excess inventory
If after offering discounts on excess inventory you still find that your turnover ratio is low, consider reselling your excess goods back to your supplier at a discounted rate. Some suppliers will be happy to rebuy the items from you if they can do so at a discounted rate and sell on to other retailers later. This will help to alleviate the burden of excess stock and improve your inventory turnover rate in general. These are just some ways to get rid of excess inventory – here are other ways to clear your stock!