Before investing in a business, a business person is faced with the need to make a decision about which stock will be on the balance sheet. The main idea should be based on how quickly it will be converted or sold.
The inventory (asset) turnover ratio is a direct indicator of the company's operational effectiveness for managing its assets. Minimization of inventory reduces overhead costs, therefore, improves the profitability of the enterprise. The amount of time that a company draws its stock depends largely on the industry. So, retail stores selling perishable goods, fashionable, high-tech goods have a higher turnover than enterprises selling durable goods. As well as companies in the processing industries in relation to manufacturers of heavy equipment.
Therefore, a comparison is valid only if it is made between two companies representing the same industry. There is a good rule of thumb - it is that if stock turnover ratio is multiplied by gross profit ratio (in percent) and it will be 100 or more percent, then stocks are in an optimal ratio.
In general, high turnover indicates better productivity, low - means ineffective management, overstock, shortages in the production line or marketing activities. But at the same time, in high-turnover sectors, increased turnover can lead to loss of sales due to inventory shortages, and a low percentage may be appropriate when price increases or market shortages are expected.
The inventory turnover ratio is calculated in accordance with accounting standards using the formula: cost of goods sold ÷ average inventory value. This is one of the most important financial ratios that measures the liquidity of a company's assets. It helps the business owner determine how sales can be increased by monitoring inventory status.
Most investors focus on revenue and profit growth. Some pay attention to cash flow. But not everyone delves into balance sheets, exploring things like receivables, payables, and assets.
Inventory turnover ratio extremely important. The business owner needs to understand why the ratio of their turnover is high or low. To do this, he should consider the company's investment in stocks, and determine which are the most productive. It is also important to use comparative data, such as a temporary trend or industrial data, so that you can compare the ratio of company assets to analyze too high or too low turnover. The coefficient formula reflects inventory turnover period and is interpreted, as an indicator of how many times the company sold them during the year (quarter).
Asset turnover is a really often missed metric in a company. At the same time, it directly affects profit, cash flow, and enterprise success. It is clear, of course, that too many stocks in a warehouse or shelves threaten the obsolescence of goods and the impossibility of its sales. While too few of them lead to a shortage and possible loss of the consumer. Any problem will cost business money. A thorough analysis of the company's stocks helps to shed a lot of light on its productivity. What efforts should be made to properly manage investment in assets? It is necessary to categorize them into "dead", "slow", productive and sale. There is an unwritten rule - 80/20 - for different situations in business. 80 percent - sales, 20 percent - from inventory turnover.