Inventory Turnover Rate: Managing Your Inventory

It is important to identify the factors that affect your inventory demands. Overstocking can lead to shortages in cash and on the other hand, if you have a shortage in stock, in can mean potential lost of clients. A mathematical way to manage your inventory is to get the average turnover rate. This rate will tell you how fast your stocks are being sold. You will then be able to anticipate how much stock to buy for a particular month or season.

The average turnover rate is equal to your cost of sales divided by the average inventory. In equation form that is:

  • turnover rate = Cost of sales / Average Inventory
where Average Inventory is equal to the average of the beginning and ending inventory for the particular period.

For example, assume that your sales for the month was P100,000 and that your cost of sales was about, P40,000. If the balance of your inventory at the start of that month was 10,000 and the balance at the end of the month was 7,500, then your average inventory for the month would be 8,750 ((10,000 + 7,500) / 2). Computing for the average turnover rate would then give us 4.57 times (40,000 / 8,750). This means that you sold more than 4 times your average inventory during the month.

This value can then be used to compute for the turnover rate in days. Simply divide 30 days by your turnover rate of 4.57. This gives us a turnaround time of 6 days. This means that in 6 days time, on the average, your supplies would more likely be sold already so it's time to replenish them before that time comes.

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