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Inventory Turnover Importance and Applicability

A normal business question that management asks in the decision-making process and performance evaluation exercises is how well is the money invested in stock generating wealth.  A financial ratio that can be utilized in order to provide financial information to management on the above mentioned matter is the inventory turnover ratio.

This ratio, which is measured in number of times, represents how many times was the stock turnover in a particular period of time.  The greater the inventory turnover, the more effective was the company in the management of stock.  In this respect, the reduction in the inventory turnover of Amazon.com Incorporation from 12 times to 11 times portrays a diminishing effectiveness in stock management.

In financial analysis, the inventory turnover ratio can be linked to the gross profit margin ratio in order to determine the effectiveness of the corporation on stock matters.  For instance, retailers and wholesale distributors that generate a gross profit margin between the ranges of 20% to 30% should attain an inventory turnover of approximately six turns per annum.  The lower the profit margin the greater the stock turnover ratio in order to compensate for the lower profit.  A good inventory turnover in the range of 12 times per year is also desirable for corporations that market fast moving items.

Even though decreasing, the inventory turnover of Amazon.com Incorporation is substantially high.  The gross profit margin of the company is in the range between 24% to 23% in the last two years analyzed.  Such gross profit margin necessitates an inventory turnover that approximately amounts to six turns per year.  By holding an inventory turnover of 11 times the company is by far exceeding such benchmark.

Amazon.com Incorporation operations entail the retail of fast moving popular products such as books, DVDs and similar items.  As noted in the second paragraph of this section, organizations engaged in such activities such ideally hold an inventory turnover of 12 times per year.  Unfortunately the decrease in the inventory turnover over the years led Amazon.com Incorporation to desist from reaching such benchmark.  The present inventory stands at 11 times, which is slightly lower than the aforesaid level.  More meticulous managerial plans and actions can easily mitigate such fall.  For example, a reduction of the quantity presently held, directing to purchasing the good more often can aid in increasing again the inventory turnover ratio.

References:

Randall H.(1999).A Level Accounting.

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Schreibfeder J. Why is Inventory Turnover Important? Effective Inventory Management Incorporation (on line). Available from: http://www.effectiveinventory.com/article2.html (Accessed 8th November 2007).