Inventory Turnover Ratio Calculator

How does this inventory turnover ratio calculator work?

This accounting tool measures the efficiency of a business in converting its inventory into sales by taking account of these 3 variables:

• Cost of the sold items;

• Starting and ending inventory balance, which represent the value of the inventory at the beginning and at the end of the fiscal year.

The algorithm of this inventory turnover ratio calculator applies the equations explained here, while it returns the results presented in the next rows:

• Inventory turnover ratio = Cost of the sold items / [(Starting inventory balance + Ending inventory balance)/2]

• Average collection period = 365 / Inventory turnover ratio

• Total cost of the inventory sold during this fiscal year = Starting balance + Cost of the sold items – Ending inventory balance

The interpretation of the inventory turnover ratio

• A low inventory turnover ratio indicates inefficiency in the way the company manages its sales versus its production, or may indicate only an excess of inventory. Please note that there are cases in which companies apply an overstocking strategy in case it either anticipates a shortage of materials or in case it expects an increase in the prices of the materials used.
• On the other hand a high inventory turnover ratio may demonstrate of one the following hypothesis:

- either the company has a proper approach on its strategy on sales which finally results in a strong liquidity;

- Or it may indicate inefficiency in the way the business plans its acquisiton and production, which means that it frequently makes purchases in small quantities of materials. Thus, these acquisitions are most probably made at higher purchasing prices.

Example of a calculation

Let’s assume that a company has a cost of sold goods of $500,000, while its initial inventory balance is evaluated at $250,000 and its inventory balance at the end of the fiscal year is $200,000. This will result in:

■ Inventory turnover ratio: 2.22

■ Days in inventory: 164 days

■ Total value of the inventory sold during this fiscal year: $550,000.00