Inventory Turnover Ratio: A Guide To Understanding Stock Turns

Understanding the inventory turnover ratio is a key aspect of effective inventory management and an absolute must if you want to maximise profitability in your business. Inventory turnover measures how quickly your inventory is sold and replaced over a specific period. By tracking this, you can ensure you’re not overstocking or understocking products, helping to free up cash flow, reduce storage costs, and prevent unnecessary markdowns. The faster your inventory moves, the more efficiently your business is running, which directly impacts your bottom line. We’ll look closer at the stock turn definition, why it’s important to be across your stock turns, and how you can improve your inventory turnover ratio.

How to Define Stock Turn

Stock turns, also known as inventory turnover, shows how many times your stock is sold and replaced within a period—typically a year. Calculating your inventory turnover ratio gives you valuable insights into product demand, pricing strategies, and overall sales efficiency. Every business should calculate their inventory turnover regularly, to see to it that they are optimising stock levels, while also maximising profit potential.

Why Is It Important To Know My Inventory Turnover Ratio?

Knowing your inventory or merchandise turnover ratio is essential because it provides valuable insights into how efficiently your business is managing its stock. A healthy inventory turnover ratio indicates that products are moving quickly, which means you’re meeting customer demand and keeping storage costs low. On the other hand, a low merchandise turnover ratio might signal overstocking or slow-moving products, tying up cash that could be used for other areas of your business.

By regularly tracking your inventory turnover, you can better forecast future stock needs, prevent wastage, and avoid the risk of products becoming obsolete. It also helps in optimising pricing strategies and purchasing decisions, ensuring you’re only holding onto inventory that sells. Ultimately, understanding your inventory turnover ratio can lead to better cash flow management and higher profitability, making it a key metric for any successful business.

How to Calculate Your Inventory Turnover: Inventory Ratio Formula

The inventory ratio formula is…
Inventory Turnover Ratio = COGS ÷ Average Value of Inventory.

For example, let’s say your business has a COGS (Cost of Goods Sold) of $200,000 for the year, and your average value of inventory is $50,000. 

Using the inventory ratio formula , your inventory turnover ratio would be:

$200,000 ÷ $50,000= 4

This means you’re turning over your inventory four times a year.

The inventory ratio formula helps you understand how many times your inventory is sold and replaced over a given period, usually a year. A higher number would indicate faster inventory movement, while a lower number might suggest slow-moving stock. It’s a simple yet powerful way to measure how efficiently your business is managing its stock. By calculating this ratio, you can make more informed decisions about stock levels, pricing, and purchasing.

What is a Good Inventory Turnover Ratio?

A ‘good’ inventory turnover really depends on your industry, business model, and the types of products you sell. In general, higher stock turns indicates that you’re selling and replenishing stock frequently, which is often a positive sign of healthy demand and efficient inventory management. For many businesses, a merchandise turnover ratio between 4 and 6 is considered ideal, meaning you’re selling and replacing your stock around 4 to 6 times a year.

However, what’s ‘good’ can vary. For example, in industries like fast fashion or groceries, where products have short lifespans or high demand, you might expect a higher ratio. In contrast, businesses selling luxury goods or furniture, where products take longer to sell, may have a lower inventory turnover, but that’s perfectly normal for their industry.

The key is to compare your merchandise turnover ratio with industry benchmarks and your specific business goals. A good ratio means you’re not holding too much stock (which can tie up cash and increase storage costs), but you’re also not understocking, ensuring you can meet customer demand.

How Can I Improve My Inventory Turnover Ratio?

Improving your inventory turnover can have a significant impact on your business’ efficiency and profitability. If you’ve noticed that your stock is sitting around for longer than it should, don’t worry—there are plenty of strategies to boost that ratio and streamline your operations. Here’s how you can improve your inventory turnover ratio:

1. Invest in an Inventory Management System
   A good inventory management system helps you track stock levels, identify slow-moving items, and forecast demand accurately. With real-time data at your fingertips, you can make smarter decisions about ordering and restocking.
2. Stay on Top of Seasonal Demand Fluctuations
   Understanding seasonal trends allows you to stock up when demand is high and reduce inventory when it slows down. By aligning your inventory with these patterns, you can avoid overstocking and reduce excess inventory.
3. Offer Promotions or Discounts on Slow-Moving Items
   If certain products aren’t selling as expected, consider offering promotions or discounts to move them faster. Clearing out old stock frees up space for new, in-demand items, helping to improve your inventory turnover.
4. Optimise Your Pricing Strategy
   Regularly review your pricing strategy to ensure it aligns with market demand. Adjusting prices based on competition, demand, and inventory levels can encourage quicker sales and prevent products from lingering on the shelves.
5. Improve Supplier Relationships
   Building strong relationships with suppliers can help you negotiate better lead times and order quantities. This flexibility allows you to stock just the right amount of inventory, reducing excess and improving your turnover.
6. Utilise Just-in-Time Inventory
   With just-in-time (JIT) inventory management, you order stock only when you need it, minimising excess and reducing storage costs.
7. Regularly Review Inventory Levels
   Conduct regular inventory audits to ensure that your stock levels are optimised (you can streamline your stock management with Tall Emu’s Customer Portal software). That way, you can identify slow-moving items early and make adjustments before they become a larger issue.

Improve Inventory Management With Tall Emu

By understanding the inventory ratio formula and implementing these strategies with your stock turns, you can improve your business by making it more efficient and responsive to customer demand.

With Tall Emu’s fantastic sales CRM software, you can:

• track customer buying patterns, preferences, and order history – helping you better forecast which products are in high demand
• your sales team can stay updated on product availability 
• you can create targeted marketing campaigns to move slow-moving stock
• integrated inventory management software will trigger ordering based on demand (improving your stock turns) 
  AND MUCH MORE!
  
  To see how you could have a clearer understanding of your customer behaviour so you can align your stock levels with real demand for improved inventory turnover, try Tall Emu CRM for free today!