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6.6: Appendix A: Ratio Analysis—Merchandise Inventory Turnover

  • Page ID
    20104
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    • Contributed by Henry Dauderis and David Annand
    • Athabasca University
    • Sourced from Lyryx Learning

    learning objective

    LO5 – Explain and calculate merchandise inventory turnover.

    To help determine how quickly a company is able to sell its inventory, the merchandise inventory turnover can be calculated as:

    Cost of Goods Sold ÷ Average Merchandise Inventory

    Cost of Goods Sold ÷ Average Merchandise Inventory
    $3,000 ÷ (($500+$700)/2)

    The average merchandise inventory is the beginning inventory plus the ending inventory divided by two. For example, assume Company A had cost of goods sold of $3,000; beginning merchandise inventory of $500; and ending inventory of $700. The merchandise inventory turnover would be 5, calculated as:

    The '5' means that Company A sold its inventory 5 times during the year. In contrast, assume Company B had cost of goods sold of $3,000; beginning merchandise inventory of $1,000; and ending inventory of $1,400. The merchandise inventory turnover would be 2.50 calculated as:

    Cost of Goods Sold ÷ Average Merchandise Inventory
    $3,000 ÷ (($1,000+$1,400)/2)

    The '2.5' means that Company B sold its inventory 2.5 times during the year which is much slower than Company A. The faster a business sells its inventory, the better, because high turnover positively affects liquidity. Liquidity is the ability to convert assets, such as merchandise inventory, into cash. Therefore, Company A's merchandise turnover is more favourable than Company B's.