# Inventory Days

## What is the Inventory Days Ratio?

The inventory days ratio or days in inventory ratio shows the average number of days sales a business is holding in its inventories. It is calculated by dividing inventories by the average daily cost of goods sold. It is sometimes called the stock days ratio.

## Inventory Days Formula

The inventory days is calculated using the following formula. • Inventory is the average of the opening and closing inventories given in the balance sheet and is normally under the heading inventory or stock.
• Cost of goods sold is found in the income statement.

## How is the Inventory Days Ratio calculated in practice?

 Revenue 440,000 Cost of goods sold 176,000 Gross margin 264,000 Operating expenses 135,000 EBITDA 129,000 Depreciation 65,000 Interest 20,000 Earnings before tax 44,000 Tax 9,000 Net income 35,000
 Cash 5,000 Accounts receivable 125,000 Inventories 20,000 Current assets 150,000 Property 390,000 Fixed assets 390,000 Total assets 540,000 Accounts payable 70,000 Other liabilities 30,000 Bank overdraft 20,000 Current liabilities 120,000 Long term debt 190,000 Total liabilities 310,000 Capital 60,000 Retained earnings 170,000 Total equity 230,000 Total liabilities and equity 540,000

In the example above the cost of goods sold is 176,000 and ending inventories are 20,000. As the opening inventories are not available, the ending inventories are used, and the inventory days is calculated as follows:

```Inventory days = Inventory / (Cost of goods sold / 365)
Inventory days = 20,000 / (176,000 / 365) = 41 days
```

The business on average is holding 41 days of sales in its inventories.

This in theory means that if production or supplies stopped then the business would run out of inventories after 41 days. In practice it is unlikely that demand would exactly match the items in inventories.

If you are using cost of goods sold for a different period then replace the 365 with the number of days in the management accounting period.

For example, if using monthly (30 days) management accounts
Monthly cost of goods sold 14,000 and month end inventories are 15,000 then
Inventory Days Ratio = 15,000 / (14,000 / 30) =  32 days

## What does the Days in Inventory Ratio show?

Inventory days is a measure of the efficiency of the inventories policy of the business. Consequently if your days in inventory are increasing it indicates that the business is building up inventory and an increasing amount of cash (possibly overdrafts) is being tied up.

In contrast any downward trend in the days ratio means that inventory levels are being kept under control in relation to the level of sales. However, care must be taken not to let the ratio fall too low as this may eventually result in inventories shortages as demand fluctuates.

## Ratio Interpretation

• The days of inventory on hand will vary from industry to industry. To make comparisons you need to use a comparable business operating in your sector.
• The days in inventory should be a low as possible without causing shortages. It is generally accepted that money tied up in inventories earns very little or nothing for the business.
• Typical ranges for the days in inventory ratio would be 30-60 days.

## Relationship to the Inventories Turnover Ratio

The inventory days calculation is linked to the inventory turnover ratio by the following formula.

Inventory Days = 365 / Inventory turnover ratio