Inventory Days on Hand: How to Calculate It and Optimize Your Inventory

What Is Inventory Days on Hand?

Inventory Days on Hand is a measurement of how many days it takes a business to sell through their average stock of inventory. It is primarily used by financial analysts and investors to determine how efficiently a business uses inventory dollars.

Because inventory is typically a merchant’s biggest investment, inventory days on hand is an important measurement to understand how long capital is being tied up in inventory and what optimizations can be made to the procurement and sales process to shorten that time. In short, the faster a merchant sells through their available inventory, the faster they will see a return on their capital investment.

Inventory days on hand can also be used to make short-term projections and set reorder points to keep inventory flowing smoothly through the procurement and sales process.

How to Calculate Inventory Days on Hand

There are two main ways to calculate inventory days on hand. Both methods will return the same answer, so choose the one that is most convenient for you.

The first method is:

Average Inventory / (Cost of Goods Sold (COGS) / Days in the accounting period)

Average inventory is found by adding beginning inventory and ending inventory (found on your balance sheet) and dividing by 2. We’ll assume that you’ve calculated your cost of goods sold (COGS), but you can read our full analysis on COGS and contribution margin here.

For example, let’s say your accounting period is a full calendar year (365 days). If your average inventory is $50,000, and your COGS over the last 365 days was $250,000 your formula would look like:

50,000 / (250,000 / 365) = ~ 73 days of inventory on hand

The second method is called the Inventory Turnover method and requires that you have your inventory turnover ratio calculated. Inventory turnover is the number of times you sell through your inventory on hand within a given period of time and is a helpful number to understand your sales velocity. The relationship between inventory turnover and inventory days on hand is inverse, meaning: if your inventory turnover ratio is high, your inventory days on hand will be low, and vice versa.

The inventory turnover method for calculating inventory days on hand looks like this:

Days in accounting period / Inventory turnover ratio = Inventory days on hand

Returning to the example above, if you sold through your inventory 5 times in the past year, you would just divide 365 by 5.

365 / 5 = 73 days on hand

The results are the same for each method. Simply choose the method that is most convenient based on the variables you have available from your ledger.

Why You Should Shorten Inventory Days on Hand

Your inventory days on hand may fluctuate depending on the season. For example, if you’re stocking up for the holidays or a big promotion, your days on hand will be inflated. However, a general rule of thumb is that the lower your inventory days on hand, the more efficient your cash flow is and therefore more efficient your business.

There are a few clear benefits to lowering your inventory days on hand, including:

• Having more capital to invest back into the business. Inventory is typically a merchant’s greatest investment and can tie up a great deal of capital.
• The ability to respond quickly to consumer demand. As a consequence of having more capital on hand, you will be able to invest in new product lines and jump on hot trends before your competitors.
• Decreased risk of obsolescence. Obsolete inventory, or inventory that can no longer be sold due to lack of demand or relevance in the market, can be a major drain on resources. Carrying excess inventory always increases the chance of obsolescence.
• Decrease inventory carry costs. Storage, transport, and inventory tax can add up, especially when inventory needs to be stored long-term.

How to Avoid Slow-Moving Inventory

It can be tempting to order as much inventory as possible to take advantage of supplier discounts and drive down unit costs. But look beyond bulk supplier discounts and take into consideration the cost of storing that inventory and the risk of  inventory obsolescence and dead stock. This helps you to strike the right balance of getting the greatest supplier discount you can without negatively affecting your inventory turnover ratio.

If you need to reduce your inventory days on hand, implement some of the following tactics to get inventory moving more efficiently:

• Partner with a fulfillment provider that can use your sales history to forecast demand and make recommendations for order times and quantities.
• Distribute inventory to improve your delivery speed and drive demand. Our consumer survey revealed that 75% of consumers are more likely to purchase from a brand that offers free, 2-day shipping. Therefore, improving your service levels should ultimately increase your sales.
• Kit items together. There may be a slow-moving item that could be sold as an accessory or complimentary item to a high velocity one. Make suggestions for consumers at checkout or offer the items together as a kit.

Our supply chain expert, Matthew Reid, offers some in-depth insights on supply chain planning to avoid slow-moving inventory in the video below.

Balancing Risk

There are risks associated with decreasing your inventory days on hand, so it’s important to determine your business’s particular risk tolerance. Not carrying enough inventory can lead to stockouts, lost sales, and ultimately lost customers, If a shopper lands on your site for the first time and is greeted with an out of stock notification, they will likely find what they’re looking for somewhere else.

To avoid issues like these it’s important to monitor inventory levels and turn off marketing campaigns and promotions when inventory is low. Ultimately you have to weigh the risk of missed sales opportunities against the increased profit potential to make the best decision for your business.

How Ware2Go Can Help

Ware2Go is a UPS-backed fulfillment partner that helps merchants of all sizes build a fulfillment network that supports affordable 1- to 2-day ground shipping to all of their customers. With a fully-integrated WMS, TMS, and OMS platform, Ware2Go enables merchants to monitor their inventory levels across all sales channels and all fulfillment locations to create accurate forecasts and optimize their inventory carry costs.

Our integrated inventory management system automatically notifies users when inventory levels are low, giving estimated days on hand and suggested reorder points. Our industry-leading SLA’s include 99.5% inventory cycle count accuracy, giving our merchants peace of mind that they are making informed decisions around procurement.

Looking for a fulfillment partner to help you optimize your inventory? Reach out to one of our fulfillment specialists today.