The Inventory Turnover KPI measures how many times a year your organization is able to sell its entire inventory. To calculate inventory turnover, use the following formula:
Cost of Goods Sold ÷ Average inventory
Inventory turnover is an important indicator of the efficiency of your supply chain, the quality and demand of the inventory you carry, and if you have good buying practices. Generally speaking, a higher turnover rate is better, while a lower turnover rate suggests inefficiency and difficulty turning stock into revenue. Each type of industry will have different benchmarks and norms. For instance, a fresh produce supplier will have many more turns than a textile/clothing supplier.
A high ratio implies either strong sales or insufficient inventory. The former is desirable while the latter could lead to lost business. Sometimes a low inventory turnover rate is a good thing, such as when prices are expected to rise (inventory pre-positioned to meet fast-rising demand) or when shortages are anticipated.
The speed at which a company can sell inventory is a critical measure of business performance. Retailers that move inventory out faster tend to outperform. The longer an item is held, the higher its holding cost will be, and the fewer reasons consumers will have to return to the shop for new items.
A good example can be seen in the fast fashion2 business (H&M, Zara, for example). Such companies limit runs and replace depleted inventory quickly with new items. Slow-selling items equate to higher holding costs compared to the faster-selling inventory.There is also the opportunity cost of low inventory turnover; an item that takes a long time to sell prevents the placement of newer items that may sell more readily.
It can help small retailers better manage decisions on how much inventory to buy, how to evaluate how inventory is performing, and assist with future inventory procurement. Such software may be tailored to some degree but may not be useful for all types of merchandise. For example, it may work best with seasonal merchandise and fashion, but may not be a good fit for fast-selling consumer goods or basic items and staples.