Seasonal products often have peak sales during certain times of the year, and if demand is over-forecasted, it can lead to excess inventory and slow turnover. It also opens the company up to trouble if the prices begin to fall.Ī good rule of thumb is that if inventory turnover ratio multiply by gross profit margin (in percentage) is 100 percent or higher, then the average inventory is not too high. Underlying factors such as seasonality and the lifecycle of products can contribute to a decrease in inventory turnover. High inventory levels are usual unhealthy because they represent an investment with a rate of return of zero. A low turnover rate can indicate poor liquidity, possible overstocking, and obsolescence, but it may also reflect a planned inventory buildup in the case of material shortages or in anticipation of rapidly rising prices.Ī high inventory turnover ratio implies either strong sales or ineffective buying (the company buys too often in small quantities, therefore the buying price is higher).A high inventory turnover ratio can indicate better liquidity, but it can also indicate a shortage or inadequate inventory levels, which may lead to a loss in business.
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Regarding the inventory days, the lower the number, the better. Inventory turnover rate (ITR) is a ratio measuring how quickly a company sells and replaces inventory during a given period. On the contrary, a low value indicates that the company only processes its inventory a few times per year. It also implies either poor sales or excess inventory. A high value for turnover means that the inventory, on an average basis, was sold several times for building the entire amount of value registered as cost of goods sold. This ratio should be compared against industry averages.Ī low inventory turnover ratio is a signal of inefficiency, since inventory usually has a rate of return of zero. Average inventory should be used for inventory level to minimize the effect of seasonality.
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Inventory Turnover Ratio is figured as "turnover times". Its purpose is to measure the liquidity of the inventory. Inventory Turnover Ratio measures company's efficiency in turning its inventory into sales.
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On the other hand, when the inventory turnover ratio is low, it signifies that a company’s inventory turnover is very low, and its products are often not sold in the market. Low inventory in businesses that do not turn over inventory quickly can mean lost business, such as when the demand spikes and customers must go to a competitor. Inventory Turnover Ratio is one of the efficiency ratios and measures the number of times, on average, the inventory is sold and replaced during the fiscal year. Hence, a high figure will mean a good inventory turnover ratio. High turnover figures mean strong sales but not enough inventory or stock shortages.