What Is a Good Inventory Turnover Ratio & 20 Tips to Improve It
How effective is your inventory management?
In this article, we walk you through all you need to know about inventory turnover and give you 20 tips on how you can improve it.
What is Inventory Turnover & Why It Is Important?
Inventory turnover is a financial calculation that shows the number of times a business sold and replaced inventory or products during a particular period of time.
It’s a useful efficiency measure used to indicate the effectiveness of a business in managing its inventory. Simply put, inventory turnover measures the sales and inventory efficiency of a business.
By showing how much it sells as a proportion to its overall inventory, a company can make informed decisions on purchasing, marketing, profit margin, and selling products that customers want.
Inventory turnover is an important key performance indicator that can help you grow and manage your business.
What Is a Good Inventory Turnover Ratio?
A good inventory turnover ratio is dependent on your specific business, average inventory value, and inventory strategy. However, businesses should strive to maintain a high inventory turnover ratio while considering the potential supply concerns and the sales forecast accuracy.
Why you might ask?
As a retailer, you never want to have inventory sitting on the shelf for long periods of time. Having a low inventory turnover ratio ties up your capital and restricts your ability to find new items to sell and lost sales. Instead, you want inventory to be flying off the shelves.
Generally, inventory turnover ratios between 4 and 6 is an ideal inventory turnover ratio as it indicates an optimal balance between inventory for sales and replenishment.
This favorable ratio will ensure that you neither run out of products nor have too much unsold stock clogging up your storage space.
A high inventory turnover ratio indicates great sales performance while a low one shows poor sales success.
How To Calculate Your Inventory Turnover?
To compute the inventory turnover ratio, you simply need to divide the cost of goods sold by the average inventory over a given time.
Inventory Turnover Formula
Inventory turnover = cost of goods sold (COGS) / Average inventory (AI)
To get this, you will need to understand and calculate these two components properly.
Cost of goods sold: This represents the cost of making your sold products and includes labor, materials, advertisement, marketing, distribution, plus any other indirect or direct costs associated with the products.
You can get the cost of goods from the annual income statement or calculate it from the balance sheet as follows (I know, I know, accounting sucks, but the numbers are where you can make a ton of money):
COGS = Beginning inventory + Purchases for the period – Closing inventory
Average inventory (AI): This is the average (or mean) value of the starting and closing inventory for a certain period calculated as follows:
AI = Beginning inventory + Closing inventory / 2
Then it’s just simple math and you have your inventory turnover ratio.
20 Tips on Improving Your Inventory Turnover
1. Better Forecasting
Different products have different popularity. When estimating customer demand for your products, note the seasonal and occasional products plus fashion trends and how they impact your inventory.
More importantly, examine your past sales data to identify the products which are selling best and have trended higher in different sales channels.
Ensure you incorporate this information in your sales forecast and budget.
The better you are at forecasting the demand for your products and when they want the demand met, the less inventory you will need to stock and the higher your inventory turnover rate will be.
2. Identify Your Benchmarks
Knowing your inventory turnover number is undoubtedly essential. But, being aware of how your business compares to similar ones in the industry is even more helpful.
Seek to find out how other businesses in your specific industry perform and compare this with your performance to know if you’re in line with your industry’s average.
If you are far below, then it may mean that your inventory isn’t moving as quickly as it should and is considered too much inventory or insufficient inventory.
3. Increase the Demand For Your Products
Low demand for your products results in low sales and consequently low inventory turnover. Increasing your sales will improve your inventory turnover. You will need to formulate effective marketing strategies to increase the demand for your products and drive sales.
You can make use of marketing campaigns that focus on advertisements or have promotional events and offers. To reach new markets, you can also utilize various available marketing mediums such as content marketing, email marketing, social media, and paid advertisements.
Well-targeted, well-designed, and cost-effective marketing efforts can help increase sales and improve the turnover ratio.
4. Evaluate Your Pricing Strategy
At times, your product pricing may be the culprit for low sales and low turnover. Pricing your products too high in a bid to get a good return on investments and ensure consistent profitability may be detrimental to your sales.
So it might be a good idea to lower your price if you aren’t selling a lot of your inventory.
You will need to factor in all the factors that influence the value, including raw materials, staff costs, processing costs, and competitors’ rates while formulating an effective pricing strategy.
Also, consider using multiple strategies based on seasonal pricing, volume discounts, and shipping costs.
5. Invest in a Robust Inventory Management Software
For you to maximize your inventory turnover, you will need to measure it first. As such, it’s critical to equip your business with a good inventory management system that allows you to track sales and inventory levels in real-time.
For Amazon sellers, Inventory Labs is a great option. There are also other options out there on the market.
6. Encourage Sale of Old Inventory and Eliminate Safety Stock
Try as much as possible to avoid keeping old stock with little demand as they put a strain on your inventory. If for any reason you find yourself with these products, provide promotions and special discounts to help you sell them as quickly as possible.
You can also launch specific marketing efforts aimed at getting rid of excess inventory. Disposing of old inventory through sales and markdowns and channeling the returns in high-turnover, faster-moving products will help you reduce inventory holding costs.
7. Efficient Replenishment
Stocking your most popular products in large amounts may be a wise strategy for running your sales cycle smoothly. However, of more importance is efficient replenishment.
Rather than buying huge quantities of products that sell fast, leading to overstocking, it’s ideal to stock smaller amounts more frequently.
It lets you order new products just before the current ones sell out, keeping your business running smoothly and avoiding overstocking.
You can utilize automated inventory reorder, usually based on historical data. Proper and effective inventory replenishment can help you prevent both overstocking and understocking, which affects turnover.
8. Focus on Best-Selling Products
It’s critical for your turnover and business as a whole to have a stock of products that are high in demand. Investing in low-demand products will affect the overall turnover of your business.
As such, you need to identify your top-selling products and make demand-driven purchasing. A good forecast can assist you in determining which items sell quickly and which items you should stock up on in the future.
Apply the 80:20 Pareto principle and invest primarily in the 20% of items that generate 80% of the profit. To improve the company’s overall inventory turnover, eliminate products with poor turnover ratios.
9. Deal With Dead Stock
To get rid of dead stock, you can do the following:
Bundle the dead stock with another product: Pair the slow inventory with products that sell incredibly well. Be keen to avoid mismatching the products.
Offer the dead stock as gifts: You can include it with a particular high-selling product that’s related or offer it as part of a promotion.
Have a clearance sale: Reduce the prices and advertise the huge discounts to your customers.
10. Negotiate Purchase Rates Regularly
Talk to your vendors about reviewing your purchase pricing regularly and ask for discounts and price reductions to help you reduce your inventory cost.
Ordering smartly can help you improve your profit margins, so ensure you bargain for better offers. Regular customers obtain better discounts and lower prices from distributors and suppliers. If you make frequent orders, even in modest quantities, you may be able to get discounted rates from your suppliers.
11. Improve Time Management
Every single minute in business matters. So, is every minute of every day used to its full potential in your business? Or are there chunks of wasted time thrown about during business hours?
Effective time management will ensure efficiency, which in turn produces optimal results. Therefore, you should ensure that you spend maximum time bringing sales. Take initiatives to reduce the amount of time it takes your company to produce items.
By increasing the efficiency of your business, you may reduce the amount of time that resources and items spend, giving no value to your business.
12. Diversify Product Lines
Customers want variety, so introducing new products or services can boost inventory turnover by instilling a sense of urgency in customers to make a purchase right away.
Investing in these new products will keep clients interested in your company and products while also meeting any other potential demand they may have. However, it’s crucial to ensure that you only stock things that sell quickly.
Therefore, you need to carry out sufficient research and put up strategies to identify the products that arouse the most interest in customers.
The more the product categories, the higher the sales, and the better the inventory turnover.
13. Product Bundling
Product bundling is a marketing strategy that involves grouping numerous products together and selling them as a single unit for a single price. This strategy aims at encouraging customers to buy products.
Unsold excess stock accumulates as dead stock in your inventory, increasing your holding expenses, and finally dumped as waste.
Bundling provides an excellent way to get rid of dead stock before it becomes an issue. Combining a slow-moving or static item with a fast-moving one will be considered a good deal by customers.
You can also use this strategy to put new products together to complement the product line. Based on the fact that people are often willing to purchase related items together.
14. Look for Ways To Move Your Inventory Quickly
If your inventory turnover is slow, it may be time to rev up your sales and marketing efforts to increase sales.
Because each business is unique, there is no one-size-fits-all approach to increasing sales. It’s, therefore, best to experiment with different strategies and methods to identify what works best for your business.
If your efforts to increase demand or sales fail to bear fruits, you can cut the products’ prices to an attractive level to increase sales and ultimately improve the inventory return.
For lower sales, you can reduce margins by setting a permanently low price to clear the inventory faster.
However, you should keep in mind that simply reducing prices may not increase sales. It may even encourage customers to buy from you only during sales. This is a hard lesson to learn, but you can typically identify this if your sales are cyclical in nature with huge bumps in sales during a price discount.
16. Perform An Inventory Audit
To improve inventory turnover, you need effective inventory management. The first step in improving inventory management for any business should be to conduct an inventory audit.
It helps show the existing stocks, record accuracy, supplier relationships, unsold inventory, and minimum order quantity levels, among many other things. It would be hard for any business to control inventory turnover without a thorough appraisal of the existing situation.
An inventory audit can also uncover inefficiencies and a lack of operating capability for your business.
17. Minimize The Risk of Product Returns
Frequent product returns have a detrimental impact on both sales and inventories. Although it may not be possible to eliminate returns and exchanges, you can reduce their frequency.
With your Amazon listings, ensure you provide detailed information about them and be truthful in their descriptions. Nothing disappoints customers more than receiving products that do not feel, look, or function as they appeared in your advert.
Make sure your product images are well-lit and depict your products accurately.
Ensure that your products don’t get damaged during transit and provide tracking notifications (this is why Amazon FBA rocks).
18. Speed Up Shipping
Fast and dependable shipping can help your business increase sales. It can be irritating for customers who order online to wait for very long periods before they can get their products.
It can even get worse if the product arrives in less than ideal condition.
This may risk them not ordering from you again or leave negative feedback, which could hurt future sales by discouraging potential buyers. As such, fast and safe shipping is crucial in helping to move your inventory quickly.
It’s important to ensure you get a reliable shipping partner to avoid delays and product damage. This is why we highly recommend using Amazon FBA for your shipping needs.
19. Cut Down Costs
Finding areas where you are overspending can help you reduce the cost of goods sold (COGS) and average inventory. Inefficient processes and procedures will increase the cost of goods sold and eat into your profitability.
Therefore, you should examine any cost-cutting measures available, including pre-paid delivery, extended credit, and the inclusion of complementary marketing materials for products. You want to make sure the customer is happy, but you might be able to cut additions that are not needed.
A decrease in your costs and expenses will lower your COGS and improve your profitability and inventory turnover.
20. Improve Customer Experience
A satisfied customer is the biggest asset for your business. In today’s business, customer experience is a key brand differentiator. Superior customer experience gives you a competitive advantage over your competitors and sustains your revenue.
Improving your customers’ experience will help you develop lasting customer relations as they will always purchase from you. This, in turn, will impact your revenue and sales since more repeat orders imply more sales.
I’m starting to sound like a broken record here, but this is where Amazon FBA is amazing. Amazon handles the customer service for you and brings their world class customer experience to every order.
Using Tactical Arbitrage To Help You Improve Your Inventory Turnover
It will analyze several products on Amazon and give you a list of the best selling. This way, you can choose products that have a high demand and that sell quickly.
As more products leave the warehouse, storage costs will be minimized, thus improving your profitability & cash flow. This, in return, will improve your inventory turnover ratio due to the increased sales and reduced holding costs.
So, what’s your inventory turnover?
Inventory turnover is an important metric you can use to measure your business performance. It is indicative of how well or bad your business is doing in terms of sales.
You can take numerous measures and decisions to boost your inventory turnover, as a high inventory turnover shows that your business is on the right route. It indicates that you are efficiently managing your inventory.
What are you waiting for? Try out the above tips and see how your inventory turnover changes for the better.