Good inventory management is undeniably an important part of running a successful retail business. So, if you’re looking to make the most of your inventory and ensure that your business always runs smoothly, you shouldn’t miss out on calculating what is known as your days in inventory.

What Is Days In Inventory?

Inventory Days Definition: Also known as days sales in inventory and days inventory outstanding, days in inventory is essentially a measure of the average number of days it will take for you to sell all your inventory.

Determining it is important because it tells you how well your business is doing inventory-wise, or how fast you move your inventory. The faster it churns, the better it is because selling goods brings in free cash for you to run your business operations, while sitting inventory just occupies space and accumulates warehouse cost.

It is ideal to have a lower value of days in inventory because this corresponds to higher turnover and hence higher profits, which indicates that your business is doing well.

Additionally, if you want to know how you are doing with respect to your competitors, you can compare your days in inventory with those of other businesses in the same industry as yours. You can also compare your current days in inventory with historical values to identify trends in your cash conversion cycle.

Quantities Needed For Inventory Days Formula

To calculate days in inventory, you first need to determine

  • the inventory turnover ratio and
  • the number of days in the period under consideration.

Here, the inventory turnover ratio represents how many times you sell and replace your inventory in a given period of time. Too low a turnover would mean that your inventory is not selling fast enough because of which you have more inventory on hand than you need. This leads to a lot of unproductive assets and hence lower profits.

Further, to calculate the inventory turnover ratio, you need to find

  • the cost of goods sold and
  • average inventory.

So, let’s get started!

Element 1: Cost Of Goods Sold

The cost of goods sold, which is recorded on the income statement, includes all direct expenses related to producing a product – such as the cost of raw material purchased from a supplier and the expenses associated with acquiring and storing inventory. It can be found using the formula below:

Cost of Goods Sold = Beginning Inventory + Purchases – Ending Inventory

where

  • beginning inventory is the value of inventory recorded at the start of an accounting period,
  • purchases refer to the value of any inventory bought during the accounting period, and
  • ending inventory is the value of inventory recorded at the end of the accounting period.

Let’s discuss an example to understand this better.

Assume that you are a retailer who sells watches. For a specific period of 1 year, let’s say you have:

  • inventory worth $5000 at the beginning of the year,
  • incurred inventory expenses worth $15000 during the year, and
  • inventory worth $3000 at the end of the year.

So,

Cost of Goods Sold = Beginning Inventory + Purchases – Ending Inventory

= $5000 + $15000 – $3000

= $17000

So, your COGS for the 1-year period is $17000.

Element 2: Average Inventory 

The value of inventory is bound to change over the course of an accounting period. So, while comparing to the cost of goods sold, it makes sense to arrive at an average value for inventory. There are several ways to value inventory such as FIFO, LIFO and WAC.

The most basic way of calculating the average inventory value is shown below.

Average Inventory value = (Beginning Inventory value + Ending Inventory value) / 2

So, using the values from the example discussed earlier,

Average Inventory Value = ($5000 + $3000) / 2 = $4000

Determining Inventory Turnover Ratio

Now, that you have the values for COGS and average inventory, you can calculate the inventory turnover ratio using the formula below:

Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory

= $17000 / $4000

= 4.25

An inventory turnover ratio of 4.25 means that you replaced your inventory of watches 4.25 times during the 1-year period.

How To Calculate Days In Inventory

Once you have calculated the inventory turnover ratio, you can calculate the days in inventory by finding the inverse of the inventory turnover ratio and multiplying it by the number of days in the period. Or in simpler terms, just divide the number of days in the accounting period by the inventory turnover ratio. So, the formula for days in inventory is as follows:

Days in Inventory = (1 / Inventory Turnover) x Days in Accounting Period

                                  = Days in Accounting Period / Inventory Turnover

In the example above, the accounting period was 1 year = 365 days

So,

Days in Inventory = 365 days / 4.25

                                  = 85.8 days ~ 86 days

This means that it will take your business 86 days to sell all your inventory of watches.

Alternative Method To Calculate Inventory Days

You can also directly use the Cost Of Goods Sold and Average Inventory Value to find the days in inventory. Just divide the average inventory by the COGS and then multiply the value you get by the number of days in the accounting period.

So, the alternative formula will be:

Days in Inventory = (Average Inventory / COGS) x Days in Accounting Period

Using the values from the earlier example,

Days in Inventory = ($4000 / $17000) x 365 days

                                  = 85.88 ~ 86 days

As a retailer, it is good practice to use both the inventory turnover ratio as well as days in inventory to determine the efficiency of your business. While the turnover ratio points you to how efficient your business is in turning over inventory and how you generate sales from that inventory, the days in inventory gives you an idea of the same in a daily context, thus leaving you with a more in-depth, accurate picture of your inventory management and overall efficiency.

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