The term inventory turnover means a ratio that is used to determine how a business is performing in other words the rate at which a business buys and sells its product to its customers. It could also indicate unfavourable condition that a business experiences because of low inventory due to management making unsound decision, poor approach by the sales department to market the product and the business holding and trading with too many obsolete goods.Managers experience stressful live when the turnover increases.
Based on recent statistics the following list shows the industries with the highest inventory turnover.
Financial services, transportation, technology, retail, utilities, energy, consumer discretionary, basic materials and consumer non-cyclic.
The financial sector is leading all other industries in terms of high turnover because they do replenish their inventory more often in year 50 times and because most of their products are intangible.
Among tangible goods the retail and consumer discretionary sectors have the highest turnover ratios. For instance, the retail industry has a turnover ratio of 10.86, which means that they replenish their entire inventory more than ten times in one year. On other hand consumer discretionary refers to goods that are nonessential but are desirable to those with a sufficient income, example is high-end fashion and entertainment industries.
While turnover sometimes could indicate an industry with low per-unit profits, a high inventory turnover can also signal a company with strong sales team or has very efficient operation. This is also a signal to investors that the sector has a less risky prospect therefore ensuring the companies undertake their replenishment of cash quickly and don’t end up getting stuck with unsold goods.
Inventory turnover can be calculated by the following two methods:
- Inventory turnover = Sales
- Inventory turnover = Cost of goods sold
Average value of the inventory
Using the first method most companies after consideration and would end up with a turnover ratio between six and 12 this is desirable ratio if the result fall within the range.
By using the second method many analysts consider the costs of goods accurate, because it reflects on what items in inventory cost a company more.
While turnover most of the time indicates an industry with low per-unit profits, on the other hand a high inventory turnover can be signal that a company has strong sales or has it had a very efficient operations. This kind of trend will also signal investors that the sector is less risky and that the prospects within which the company does replenish cash quickly does not lead to the company holding onto more unsold goods.
It is worth noting that a high turnover indicates and confirms the company efficient operation, and it has a good yearly sale most investors would be persuaded to put spare resources in the company.
The flip side of notion supported by high turnover theory; extremely high turnover is dangerous in the sense that it could be an indication of the company inability to meets customers orders when they fall due because of insufficient goods for supply. Yet the general rule stipulates that a good turnover should be between 5 and 10 this is so to ensure that companies have enough inventory on hand.