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What Is A Good Inventory Turnover Ratio?

inventory management

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Are you struggling to identify a good inventory turnover ratio? Then you are in the right place. Benchmarking your industry to find the ideal inventory turnover ratio is not as difficult as it seems, and you will shortly discover why. 

 

With over 30 years of experience working with Australian warehouses and businesses, we have insights and expertise that help clients create a good balance in inventory management. 

 

In this article, we will provide a comprehensive overview of inventory turnover ratios, how to calculate them, and how to interpret the results within the context of warehouse operations. 

 

What Is A Good Inventory Turnover Ratio?

 

The inventory turnover ratio measures how fast a company sells and replenishes its products. It is calculated by dividing the cost of goods sold by the average inventory for the same given period. 

 

A high inventory turnover ratio indicates faster product sales, leading to lower storage costs. Conversely, a low ratio suggests excess inventory, resulting in higher storage costs and potentially outdated products. 

 

The ideal ratio varies by industry. Competitive markets often require faster turnover (higher ratio) to stay current. Industry benchmarks are helpful, but other factors like market conditions and company operations influence the ratio.

 

Therefore, a “good” ratio is relative – extreme highs or lows can signal problems within the company. 

 

Inventory Turnover by Industry 

 

The ideal inventory turnover ratio varies per industry.  

Low-margin industries like grocery stores and discount retailers need high turnover to stay profitable because they must sell their inventory quickly to offset their low margins.  

 

High holding cost industries like car dealerships and electronics stores also need a high turnover. However, luxury industries can function with a lower turnover due to high profit margins and niche markets. 

Let’s get more specific for each industry: 

 

Pharmaceuticals: there are no standard values for data in healthcare as it is very broad, so the inventory turnover ratio could vary widely. Pharmaceuticals are significantly influenced by the expiry date of their products – shorter expiration periods, for instance, would need to have a higher turnover ratio to minimise losses.

However, some pharma products are small in size and also have a longer shelf life, which would reduce the pressure on meeting a high turnover value.  

 

Fashion & Apparel: the industry standard for fashion and apparel can vary depending on the type of product and business model.

Fast fashion retailers have higher turnover ratios like Kmart or Target due to low margins, while luxury brands may have lower turnover, with the average cited to be around 3.91 times per year (usually changing per season). 

 

Food and Perishable Products: Food-related industries, including restaurants, typically have a high inventory turnover ratio that falls between 4 and 8 times a month because of the perishable nature of the goods.

Food that is stored in the freezer for too long loses its quality, so the ideal inventory turnover ratio is higher to prevent losses due to spoilage. 

 

The table below shows a simplified estimation for good inventory turnover. Results change depending on the business model, size, and stage of the business. 

 

Industry   Good inventory turnover ratio in days  Good inventory turnover ratio in a year 
Healthcare equipment   20 – 33   11 – 18 
Pharmaceutical   28 – 30  12 – 13 
Auto Dealerships  90 – 140  2 – 4 
Fashion & Apparel  87 – 105  0.2 – 4 
Food & Perishable Products  18 – 25  15-20 
Chemical & Hazardous Goods   110 – 120  3 – 4 
Consumer Goods   92 – 102  3 – 4 
Furniture Retailers  60-80  4-6 
Building Materials & Hardware stores  45 – 60  6-8 
Printing & Publishing  24- 30  12- 15 

*source: https://www.readyratios.com/sec/ratio/inventory-turnover/ 

 

Inventory turnover ratio calculator  

 

Calculating your inventory turnover ratio is straightforward. 

 

Cost of Goods Sold (COGS): represents the cost of the products you sell during a specific period. You can calculate this by using your beginning inventory, purchases made during the period, and ending inventory. 

 

Average inventory: reflects the average inventory you hold throughout the period. A simple way to calculate this is to add your beginning and ending inventory and divide by two. 

 

 

Once you have these values, the formula for the inventory turnover ratio is: 

 

Inventory turnover ratio = cost of goods sold / average inventory 

 

The ratio tells you how often you sell and replace your inventory within a given period.

 

It is also important to note that achieving an ideal turnover ratio requires accurate forecasting of future sales. 

 

The Role of Forecasting in Inventory Management 

 

Forecasting future sales is a critical element in effective inventory management. By predicting demand for specific products, businesses can make informed decisions about how much stock to order and when. Accurately forecasting future sales can help: 

 

  • Reduce stockouts: Having enough inventory on hand to meet customer demand.
  • Minimise excess inventory: Preventing unnecessary storage costs and the risk of obsolescence for fast-changing trends.
  • Optimise ordering and production cycles: Ensuring a smooth flow of goods and avoiding stock disruptions. 

 

To achieve these benefits, businesses leverage historical sales data. The amount of historical data available determines the forecasting method used. 

 

When there’s more than two years of data, businesses leverage sales information from the same month in previous years. For instance, to forecast April 2024 sales, they might use data from April 2021, 2022, and 2023.  

 

However, with less than two years of data, they rely on a three-month average. For example, January, February, and March 2024 data would be used to forecast April 2024, and then February, March, and April data would be used to forecast May 2024. 

 

In essence, forecasting allows businesses to understand their ideal inventory turnover ratio – having the right amount of stock at the right time. 

 

Same industry, different inventory turnover ratio 

 

As previously covered, even within the same industry, brands can have vastly different inventory turnover ratios, and it largely depends on the number of products they need to sell to stay profitable.  

For example, the world of fashion, for instance, encompasses a wide spectrum, from trendy affordable outlets to timeless luxury brands. Let’s cover an example to help you visualise the inventory turnover ratio better: 

 

Fast Fashion Inventory Turnover

 

Let’s say a fashion brand has a COGS of $200,000 and an average inventory of $50,000 for a quarter. 

 

Their inventory turnover ratio would be: $200,000 (COGS) / $50,000 (average inventory) = 4 

 

This brand’s inventory turnover ratio is 4, which means they sell through their stock and restock it roughly four times a year. 

 

Fashion & apparel often operate with a higher turnover ratio compared to other industries because trends change quickly. A turnover of 4 suggests the brand is efficiently managing their stock and keeping up with current trends. 

 

Luxury Brand Inventory Turnover

 

A luxury brand has a COGS of $5 million and an average annual inventory of $15 million. 

 

Their inventory turnover ratio would be: $5 million (COGS) / $15 million (average inventory) = 0.33 (rounded) 

 

This means that the brand’s inventory turnover ratio is 0.33. This means they sell through their stock and restock it roughly every 3 years (1 divided by 0.33). 

 

Luxury brands typically have a lower inventory turnover ratio than other fashion sectors. This is because their items are often handcrafted using high-quality materials and cater to a more exclusive clientele.

 

A lower turnover maintains exclusivity and prestige while ensuring enough stock for interested buyers. 

 

 

By understanding the inventory turnover ratio, we can see how different brands strategically manage their stock to cater to their target audience and brand identity.  

 

In fashion, for instance, we can see how fast fashion prioritises speed and trend adherence, while luxury brands focus on exclusivity and craftsmanship.  

 

Now that we’ve seen how the inventory turnover ratio reflects a brand’s strategy, let’s explore what to do if your ratio falls short of hitting your profits. 

 

What Should I Do About a Low Inventory Turnover Ratio?   

 

A low inventory turnover ratio can signal that your business might be in trouble. This is why you need to identify the cause first. Here are some actions you can explore: 

 

  • Inventory Breakdown: Analyse turnover by category to identify slow-moving items dragging down the ratio. You can also track inventory age to find near-obsolete stock impacting turnover. 

 

  • Sales & Marketing Review: Check for declining sales or changes in customer buying habits that are affecting turnover. Evaluate marketing effectiveness in driving demand and sales and analyse pricing strategy to ensure competitiveness, especially for slow-moving items. 

 

  • Supply Chain Checkup: Identify bottlenecks or delays hindering product availability. Review supplier performance for reliability issues or delivery delays. See if high minimum order quantities force you to hold excess inventory. 

 

  • Internal Operations Assessment: Look for inefficiencies in picking, packing, and shipping that slow down fulfilment. Analyse stockout frequency and causes to see if they hinder sales and contribute to low turnover. 

 

The table below shows a simplified estimation for low inventory turnover. Results change depending on the business model, size, and stage of the business. 

 

Industry   Low Inventory Turnover Ratio
in a Year
 
Healthcare   Less than 6 
Pharmaceutical   Less than 12 
Auto Dealerships  Less than 1 
Apparel & Fashion   Less than 1 
Food & Perishable Products  Less than 8 
Chemical & Hazardous Goods   Less than 1 
Consumer Goods Less than 1
Furniture Retailers  Less than 2 
Building Materials & Hardware stores  Less than 3
Printing & Publishing  Less than 7 

*source: https://www.readyratios.com/sec/ratio/inventory-turnover/ 

 

Can the Inventory Turnover Ratio Be Too High?  

 

Most business owners believe that low inventory turnover ratio is bad, but extremely high inventory turnover ratio is not always good, either. The inventory ratio can be too high if a supplier cannot replenish stocks fast enough.  

 

An extremely high inventory turnover ratio can cause stockouts if there are slight delays in the supply chain. The ideal inventory turnover ratio balances sufficient stock levels with minimised holding costs. This requires considering factors like industry, product lifecycle, and market conditions. 

 

You should also consider holding costs for specific products, such as high storage expenses for certain items, which might necessitate higher turnover to offset costs. 

 

Finally, remember that market conditions change, so you must be prepared to adjust your inventory management strategies accordingly. 

 

The table below shows a simplified estimation for high inventory turnover. Results change depending on the business model, size, and stage of the business. 

 

Industry   High Inventory Turnover Ratio in a Year 
Healthcare   More than 36 
Pharmaceutical   More than 13 
Auto Dealerships  More than 8 
Apparel & Fashion   More than 8 
Food & Perishable Products  More than 40 
Chemical & Hazardous Goods   More than 8 
Consumer Goods   More than 8 
Furniture Retailers  More than 12 
Building Materials & Hardware stores  More than 16 
Printing & Publishing  More than 30 

*source: https://www.readyratios.com/sec/ratio/inventory-turnover/ 

 

The SEQOS WMS Solution to Improve Inventory Turnover 

 

The SEQOS management system (WMS) can help you to control and improve your inventory turnover. It uses smart tools for managing stock location and movement, getting products in and out of your warehouse faster.  

 

For reporting purposes, the software can also provide daily, weekly, monthly, and yearly reports to make accessing data easier. 

Below is a forecast report example that the SEQOS WMS solution can render to help predict the inventory needed for the following months: 

 

 

After identifying the root cause of your problems with inventory turnover, you can take actionable steps toward improving your warehouse inventory turnover ratio. 

 

SEQOS can help businesses navigate fluctuating markets by offering smart solutions. 

 

Inventory Accuracy: Inventory accuracy begins when stock is received in the warehouse. Items are fitted with barcodes for better inventory management.  All transactions are fully recorded in the SEQOS Audit Trail.

 

eBusiness, Systems, and WMS Integrations make updating inventory and data records faster and easier, to help streamline warehouse processes. 

 

Just-in-Time (JIT) Inventory Management: streamlines operations by receiving inventory from suppliers only as it’s needed for production or sales, maximising efficiency and reducing costs.

 

Returns Management Software: also known as reverse logistics, it simplifies the process of returning items and equipment from customers to the warehouse and returning items and equipment from the warehouse to suppliers. 

 

Warehouse Space Management: optimises storage space to increase overall warehouse capacity and improve organisation and the flow of operations. 

 

By potentially leveraging a WMS solution like SEQOS, you can achieve your optimal inventory turnover ratio and balance sufficient stock levels for long-term profitability. 

 

Summary & Conclusion 

 

Maintaining the right amount of stock is a balancing act for any warehouse business. A good inventory turnover ratio ensures you have enough products to meet customer demand without excessive storage costs. 

 

However, the ideal ratio can vary depending on factors like profit margins and product lifecycles. 

 

If your ratio is low, you might have excess stock or inefficiencies in your operations. To address this scenario, analyse your inventory by category, identify slow-moving items, and consider implementing tactics like just-in-time ordering or targeted promotions. 

 

An excessively high ratio, on the other hand, can lead to stockouts if there are even minor supply chain disruptions. Here, the focus should be on optimising your ordering process and lead times to ensure you don’t run out of supply before you can sell it. 

 

Having the right amount of stock is key. It shouldn’t be too low or too high. 

 

A warehouse management system (WMS) can help by giving you real-time data on your inventory and helping things run smoother. 

 

This will bring you closer to the ideal inventory turnover rate, which will help your business be profitable in the long run. 

 

Contact SEQOS for a personalised assessment and to learn how to achieve an optimal inventory turnover ratio. 

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