![]() Here’s an example of how low inventory turnover can affect financial statements: Low inventory turnover can hurt a business’s financial statements. Comprehensive example of how low inventory turnover affects financial statements High inventory turnover can positively impact a business’s financial statements by improving gross profit, reducing working capital requirements, and improving cash flow.īusinesses can improve their financial performance and profitability by effectively managing inventory levels and increasing inventory turnover. This can free up cash for other uses, such as investing in new products or expanding the business. In our example, if the business’s inventory balance decreased to $70,000 due to higher inventory turnover, it would reduce the working capital requirements and potentially free up cash for other uses.Ĭash Flow Statement: A higher inventory turnover ratio can improve cash flow by reducing the amount of cash tied up in inventory. This can result in a higher net income and better financial performance.īalance Sheet: A higher inventory turnover ratio can result in lower inventory levels and reduced working capital requirements. In our example, if the business’s COGS decreased to $350,000 due to higher inventory turnover, the gross profit would increase to $150,000 ($500,000 – $350,000). Income Statement: A higher inventory turnover ratio can result in a lower cost of goods sold (COGS) and higher gross profit. Here’s how high inventory turnover can affect the business’s financial statements: This means the business sells and replaces its inventory 7 times yearly. Let’s assume that the business implements changes to its inventory management practices that result in a higher inventory turnover ratio of 7. This gives the business an inventory turnover ratio of 5 (COGS / Average Inventory = $500,000 / $100,000 = 5). During the year, the business had $500,000 in COGS and an average inventory balance of $100,000. ![]() Let’s consider a hypothetical business that sells clothing. Here’s an example of how high inventory turnover can affect financial statements: High inventory turnover can significantly impact a business’s financial statements. A comprehensive example of how high inventory turnover affects financial statements This means that the business sold and replaced its inventory 5 times during the given period. Inventory Turnover = Cost of Goods Sold / Average InventoryĬost of Goods Sold (COGS) is the total cost of the goods sold during the periodĪverage Inventory is the average value of inventory held during the periodįor example, if a business has COGS of $1,000,000 and an average inventory of $200,000 during a given period, the inventory turnover would be: Understanding inventory turnover is essential for managing inventory levels and avoiding excess inventory or stockouts. Inventory turnover is a financial metric that measures the number of times a business sells and replaces its inventory during a given period.
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