For small businesses that rely on inventory, it’s essential to know how much stock comes in and goes out. It’s especially important to know how long you hold onto stock before selling it. “Inventory days” is a useful metric that helps businesses identify issues and improve operational efficiency and cash flow.
What are inventory days?
Inventory days are the average time it takes to sell inventory. How long it takes for inventory to sell helps businesses plan when to purchase more, among other things. Basically, inventory days provide context to your operations and inform critical business decisions.
Hot Tip! When discussing or using inventory day metrics, several interchangeable formulas and metrics cover the same concept: days sales inventory (DSI), days inventory outstanding (DIO), days in inventory (DII), and inventory days of supply (IDS). They all calculate the same thing.
How To Calculate Inventory Days (Formula And Steps)
Calculating how long it takes to convert inventory into sales requires a few key steps. First, you need to know your inventory turnover, which is how many times you sell your entire inventory over a specific accounting period. This is also known as your inventory turnover ratio.
To get this, divide your cost of goods sold (COGS) — the total cost of your raw materials, direct labour, manufacturing overheads, and supply/freight costs — by your average inventory cost. Your average inventory is determined by adding your beginning and ending inventory and dividing by 2.
Here is an example:
- COGS: $60,000
- Beginning inventory: $40,000
- Ending inventory: $20,000
- (Beginning inventory + ending inventory) / 2
- Average inventory: $30,000
- COGS / Average inventory = 2
This means that the inventory turnover ratio for this example is 2. To get your inventory days (DSI, DIO, or DII), divide 365 (the number of days in a year) by your inventory turnover.
- 365 / 2 = 182.5 inventory days
Interpreting Inventory Days
A business’s inventory days can be good or bad, depending on the industry. The special metals mining industry has a DSI between 120 and 180, whereas fast fashion has an industry average DSI of 25-40. So, context matters. Lower inventory days than your industry average may mean your business is efficient, whereas higher inventory days could indicate the opposite.
This doesn’t account for pricing, market demand, supply chain disruptions, or variations in material costs. For instance, a fast-fashion company could have high turnover and a DSI of 15 (below the industry average), yet still be unprofitable because it undersells or can’t maintain stock levels to meet demand. However, if your average inventory days don’t align with industry norms, it could mean you have too much cash tied up in inventory and that your sales strategy needs tweaking. Treat it like a yellow flag.
Average Inventory Days Best Practices
To improve your DSI relative to your industry, you can try several inventory management best practices.
- Set reorder points (ROP): ROPs automate stock orders when inventory dips too low. This can help ensure your inventory levels meet demand, so you don’t lose sales.
- Review and forecast: Go through your accounting data to identify trends that improve demand forecasting — this will help reduce inventory days, eliminate excess inventory, and prevent stockouts (running out of inventory).
- Pick an inventory management principle: ABC analysis or just-in-time practices can reduce holding costs and improve inventory turnover.
These methods can help reduce DSI, achieve faster inventory turnover, and improve cash flow.
