Inventory Turnover
Inventory turnover is meaningful on several levels. One is the measure of management's ability to convert an asset into either cash or accounts receivable. Another is the measure of the company's management of an important part of the sales process. You want to compare inventory metrics within an industry to really understand the significance. A wholesaler may turn inventory weekly whereas a wine store may only turn inventory 4 x during the year. So with that being said, the formula for inventory turnover is:
Inventory turnover = Cost of goods sold / average inventory
Example:
CVS Corp inventory for
fiscal years ended December
31, 2005 and 2006 were
$5,720 and $7,109 million
respectively. Cost of goods
sold (COGS) for fiscal year
end December 31, 2006 was
$31,875 million. What was
CVS's inventory turnover for
2006?
Inventory turnover = $31,875
/ (($5,720 + $7,109)/2)
Inventory turnover = $31,875
/ $6,415
Inventory turnover = 5
If calculating the inventory
turnover turnover ratio on
an intra-period basis you
need to account for the
period (generally the ratio
equation is used for a
year-to-year calculation).
CVS Corp inventory
for the quarters ended June
30, 2007 and September 30,
2007 were $7,749 and $7,892
million respectively. Cost
of goods sold was $16,300
million. CVS's inventory
turnover for the September
30, 2007 quarter was:
Inventory turnover = $16,300
/ (($7,749 + $7,892)/2)
Inventory turnover = $16,300
/ $7,821
Inventory turnover = 2 -
remember this is for a
quarter ... so multiple by 4
Inventory turnover
(Annualized) = 8
So, during 2007 CVS has
improved its inventory turn.
This may be an example of
bad management resulting in
stock-outs etc. But, this is
CVS and I think they run a
good company - in my opinion
the increase in turn is just
good management.