The inventory turnover ratio.
A measure of how many times inventory cost is sold and replaced inside a period. Useful as a working-capital signal; misleading without an industry comparator.
Definition
Inventory turnover equals cost of goods sold divided by average inventory at cost. The result is unitless and reads as turns per year. A ratio of 6.0x means inventory is sold and replaced six times in the period, equivalent to 61 days inventory outstanding.
The two formula variants
The COGS-based formula is the GAAP-preferred form and the one most lenders use. The sales-based variant (sales over inventory) is older and inflates the ratio because the numerator carries gross margin that the denominator does not.
What the ratio signals
- Above industry median: lean operations, or stockouts. Cross-check fill rate.
- At median: inventory in line with the cohort. Working capital sized normally.
- Below median by more than fifteen percent: bloat, slow movers, or hidden obsolescence.
How lenders read it
Commercial bankers and asset-based lenders watch turnover trends, not absolute levels. A two-quarter decline of more than ten percent triggers a borrowing-base scrub on most revolving credit facilities. See the playbook on covenant defence.
Common mistakes
- Using sales in the numerator while comparing against COGS-based benchmarks.
- Using ending inventory in a highly seasonal business.
- Ignoring intercompany or in-transit inventory in the denominator.
- Not annualising a partial-period COGS figure.