What is a Good Inventory Turnover Ratio for Retail?

Healthy Inventory Turnover Ratio for Retail Businesses

Posted 4 years ago by Max Komonov

An听inventory turnover ratio is听a听key performance indicator that shows how much sales a听business is听making. For retail businesses, this number is听vital, as听it听provides necessary data that can help make good business decisions that can boost sales.

This article will introduce the听inventory turnover ratio and听how it听relates to听the听average small retail business. It听will show how you can calculate the听turnover ratio and听its general importance. It听will then walk you through what is听considered a听healthy inventory turnover ratio. This will help you make an听informed decision on听what this number might mean for听your own business, and听how to听improve it. By听the听end of听this article, you should have a听solid baseline understanding of听the听inventory turnover ratio. So听let鈥檚 get started.

What is听Inventory Turnover Ratio?

Inventory that shows business owners the听number of听times they sell their products over time. Normally you calculate the听inventory turnover ratio in听terms of听years. However, many businesses also calculate it听monthly or听quarterly. In听retail businesses, this ratio is听an听important parameter that gives you the听lowdown on听the听speed at听which you sell your overall products. Therefore, armed with this number, you have a听clear picture of听your general financial position.

How do听you calculate your inventory turnover ratio?

For any听business, there is听a听simple formula you can use to听get your inventory turnover ratio. Below is听the听formula:

Inventory Turnover Ratio =听Amount in听Sales of听Products Generated/Average Inventory

To听further understand how to听use this formula and听the听effect inventory turnover ratio has, below are two examples to听help you understand how this number might work in听the听real world.

Example 1

A听retail shoe business sold 拢100,000听worth of听sneakers in听2020, and听they held an听average of听拢50,000听in听inventory. What is听the听inventory turnover ratio?

Inventory Turnover Ratio =听拢100,000/拢50,000

So, their inventory turnover ratio is听2.

What to听Note: From the听answer obtained, it听means that the听retail business had to听restock their entire inventory twice a听year. From this, we听can conclude that they are selling at听a听profitable rate.

Still confused? Let鈥檚 try another one.

Example 2

A听hair retail business sold 拢200,000听worth of听hair in听2019. On听average they held 拢500,000听in听inventory. What is听the听inventory turnover ratio?

Inventory Turnover Ratio =听拢200,000/拢500,000

Their inventory turnover ratio is听0.4

What to听Note: From the听answer obtained, you might say that the听retail business is听holding and听spending on听too much inventory. They have money tied up听in听stock, and听they are undoubtedly spending more to听store them than they are making in听revenue from selling.

What is听a听Good Inventory Turnover Ratio for听Retail Businesses?

You already have an听idea of听the听inventory turnover ratio. However, what is听the听direct application of听this formula to听your retail business? What inventory turnover should you aim for听as听a听retail business owner. As听a听retail business owner, an听inventory turnover ratio your business should aim for听is听between 2听to听4.

Why not a听lower inventory turnover ratio?

A听lower inventory turnover ratio than 2听shows might signal a听decline in听sales. This can be听due to听a听decrease in听the听popularity of听products, a听weak marketing force, etc. It听also means that you are also spending a听large proportion of听your budget on听keeping/storing your stocks. This is听something that will affect your retail business.

As听a听retail business, you undoubtedly want to听make tremendous sales and听not only remain relevant. Therefore, you should scrap having an听inventory turnover ratio below 2.

Why not a听higher inventory turnover ratio?

What about an听inventory turnover ratio above 4?听What does a听high number say about your retail business?

Contrary to听what you might think, an听extremely high value is听not a听good thing for听retail businesses. For example, if听you have a听value of听7,听it听can indicate a听low stock level. Consequently, you might be听missing out on听sales because you are out of听certain stock or听aren鈥檛 holding enough supply to听keep up听with demand. Also, in听terms of听logistics, this might mean you are worrying more about getting your products than selling them.

Having an听inventory turnover ratio of听2听to听4听will help your business perform well and听help you achieve your goals without getting overwhelmed along the听way.

Why It鈥檚 Important to听Measure the听Inventory Turnover Ratio

Not calculating your business inventory turnover ratio can result in听you missing valuable data that can help you enact your business plan effectively and听achieve your goals. Below are different reasons why you should calculate the听inventory turnover ratio.

Inventory turnover ratio is听a听key performance indicator

This is听one of听the听most valuable importance of听calculating the听inventory turnover ratio in听retail businesses. Being a听key performance indicator, the听inventory turnover ratio can help you manage and听grow your business effectively.

It听can show liquidity

Do听you intend to听get a听loan to听manage your retail business? If听yes, you should always calculate the听inventory turnover ratio as听it听will how your business assets liquidity. This will be听highly beneficial when making a听loan application.

It听helps in听making business decisions

Making decisions that will benefit your business can be听challenging as听a听business owner. While there are many indicators that you can use, the听inventory turnover ratio is听particularly peculiar to听retail businesses. It听shows the听stock level and听turnover rates which makes making business decisions an听easy task. With the听inventory turnover ratio, you can answer questions such as:

What and听how many items do听you have to听order
What products do听you need to听put on听sale?

Consequently, you can purchase merchandise, and听sell products that your customers want. However, do听well to听combine it听with other indicators for听maximum business growth.

How To听Improve Inventory Turnover Ratio

If听on听calculating your inventory turnover ratio you find it听not in听the听specified range, then you need to听know how to听improve it. Below are some ways to听improve the听inventory turnover ratio for听retail businesses.

Get a听proper inventory management system

It听is听impossible to听improve your inventory turnover ratio without using the听right tools. Therefore, as听a听retail business owner, you need an听effective POS (Point of听Sale) inventory management system. These tools will allow you to听track sales and听inventory levels while generating full reports in听real-time. A听good POS inventory system will also allow you to听report on听all aspects of听your business without the听need for听manual processing. Therefore, saving time and听reducing costs.

Create ways to听sell slow-moving inventory

Another way to听improve your inventory turnover ratio is听to听ramp up听sales of听your inventory. The problem for听many retail businesses that reduces the听turnover ratio is听slow-moving products. From the听formula, the听inventory turnover ratio is听directly proportional to听the听number of听goods you sell and听inversely proportional to听the听average inventory on听the听ground. Therefore, stringent marketing efforts that can drive up听sales of听those slow-moving products that contribute to听the听average inventory will improve the听ratio.

Proper forecasting

Many factors can influence the听inventory turnover ratio. These include demand based on听season, occasional products, and听ongoing market trends. As听a听result, it听is听important you properly forecast orders and听stock levels yearly, monthly, or听quarterly as听you like to听calculate your inventory turnover ratio.

You can forecast by听evaluating sales data as听history will most likely repeat itself (depends on听your business), observe the听trends (for example, if听you are dealing with footwear, note the听trend on听the听types of听sneakers that the听majority of听people are wearing and听stock on听it. You can also forecast based on听the听season (Christmas toys don鈥檛 sell in听May).听 On听careful evaluation, incorporate the听data into the听plan and听act on听it!

Effective marketing

Your business sales are directly tied to听your marketing ability. Consequently, effective marketing is听a听crucial tool to听use when looking to听improve your inventory turnover rates. With an听effective marketing plan, you can sell items you have in听stock that seem unsellable and听reach more customers.

Also, marketing can be听channeled towards getting new customers. With new customers, you can sell and听improve your business and听improve your inventory turnover rates.听 There are many ways you improve your marketing. Below are some ways that have proven effective for听many:

Social Media

Social media is听a听powerful tool, especially when you combine it听with the听use of听ecommerce. You can easily leverage on听platforms such as听Facebook, Instagram, Twitter, and听TikTok for听your marketing needs.

Improve your website

User experience is听an听important factor you should consider also. If听your retail business has a听website, it听is听important to听improve the听website navigation. Consider factors such as听loading speed, aesthetics, which improves navigation will affect the听number of听clicks you get.

Other factors to听consider in听marketing include email marketing, Loyalty programs, and听paid advertising.

Ecommerce

Ecommerce is听a听powerful tool in听the听right hands. For retail businesses, you can leverage the听advantages ecommerce brings. For example, with ecommerce, you can reach a听new and听large audience, have access to听a听different location, etc., to听boost sales. There are also other intrinsic advantages of听ecommerce based on听the听platforms you are using. For example, you can use the听review system to听build up听credibility. Improve your sales using ecommerce and听consequently improve your inventory turnover ratio.

Final Thoughts

For people running a听retail business, your inventory turnover ratio can be听an听ideal tool to听help you measure business growth. It听can also be听valuable in听making business plans to听boost sales. To听make it听easy, this article introduced inventory turnover, how to听calculate it, the听healthy inventory turnover ratio you could consider, and听why it听is听important. By听going through this article, no听doubt you have a听solid idea on听how to听improve your sales which banks on听the听need for听a听healthy inventory turnover ratio.

听

About The Author

Max has been working in the ecommerce industry for the last six years helping brands to establish and level-up content marketing and SEO. Despite that, he has experience with entrepreneurship. He is a fiction writer in his free time.

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