Definition
Inventory turnover is cost of goods sold divided by average inventory. Dividing the days in the period by the turnover gives days inventory outstanding, the average time stock sits before it is sold. Higher turnover means faster movement. The ratio is sensitive to costing method, since LIFO and FIFO produce different inventory and cost of goods sold amounts in rising markets.
Why it matters in an audit or review
A slowing rate is an indicator of obsolete, damaged or overstated inventory and a prompt to test lower of cost and net realizable value under ASC 330-10. A rate that is too high can point to understated ending inventory or cost of goods sold recorded early. The auditor compares the ratio with prior years, budgets and peers as an analytical expectation under AU-C 520.
Example
Illustrative: cost of goods sold of $2,400,000, opening inventory of $560,000 and closing inventory of $640,000 give average inventory of $600,000 and turnover of 4.0. Days inventory outstanding is 365 / 4.0, about 91 days.
Common mistakes
- Using sales instead of cost of goods sold in the numerator.
- Using ending inventory when the balance changed sharply during the year.
Sources
- AICPA, AU-C Section 520, Analytical Procedures
- FASB ASC 330-10, Inventory, Overall (subsequent measurement, lower of cost and net realizable value)
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error