Inventory Turnover Ratio

The inventory turnover ratio is used to tell if a company is keeping a good sized inventory based on their sales. It is considered to be a very important figure.

(Cost of Goods Sold) / (Average time in inventory)

Generally a higher inventory turnover is better. If is too low that could mean the company is overstocking or they are unable to sell their products at a decent rate. Either way it indicates the company is not being run properly and may not be a good investment.

Even though it is better to have a high inventory turnover ratio it is possible to be too high. If it is too high, that could show a company is not keeping enough inventory to meet demand. This could equate to loss of sales.

This ratio should be compared with other companies in the same industry group to determine if it is good or bad. You should also think creatively when using this ratio. If they have too much inventory in winter but the company makes most of its sales during spring and summer, they could simply be preparing by getting more inventory now.