When business is booming, inventory often flies off your warehouse shelves faster than you can reorder it. But when things slow down, tens of thousands of dollars in stock might sit there, gathering dust and damaging your company’s liquidity.
To avoid losses, you can’t rely on gut feelings to gauge the rate at which stock turns into sales. Instead, calculate days sales in inventory (DSI) to make an accurate determination.
Learn to track DSI for actionable insights into consumer demand and reorder points.
What’s days sales in inventory?
DSI is a financial metric revealing the average time it takes to turn over a company’s entire stock, expressed in days.
The DSI inventory days formula includes finished products and goods still in production. It includes the former because you already have time, money, and materials tied up in those items, and the latter because unfinished goods negatively impact your liquidity.
This might sound familiar if you’ve ever heard of a stock turnover ratio. However, DSI is distinct because it goes beyond that ratio to include not only finished goods, but also goods that are still in production. The stock turnover ratio only includes finished goods.
Since every part currently being manufactured is equally as important (and impactful to your bottom line) as a product that is ready to be sold, it’s a good idea to include both of them in this calculation to be more thorough.
Why should you calculate and track days sales in inventory?
DSI provides vital information about your stock turnover ratio, which reflects your company’s overall performance. Here are just a few advantages of calculating and tracking this metric.
Understanding business liquidity
DSI gauges business liquidity. If your ratio is relatively low, it indicates a quick stock turnover. Should a challenge arise, you can pivot mid-sales cycle, knowing you’ll soon have the cash to cover unexpected expenses.
Conversely, if turnover rates are slow, you could have thousands tied up in difficult-to-sell goods for weeks at a time. As a result, your business is much more rigid and susceptible to market volatility.
Imagine two people who are fond of saving money. One keeps a large sum in their savings account to deal with unforeseen expenses and invests the rest. The other only keeps $300 in their savings account and invests most of their funds in stocks, bonds, and certificates of deposit (CDs) — all of which aren’t immediately accessible.
Both individuals face a major vehicle malfunction costing an estimated $5,000 to repair. The first person simply withdraws money from their savings account, pays for the repairs, and gets back to business as usual. The second can’t access most of their funds, so they either have to withdraw money with a penalty or take out a loan.
This example illustrates the dangers of building a rigid business with limited access to funds. You might not even realize you’re trapped by this rigidity until a challenge arises — much like the heavy investor might have experienced feigned security until the car problem. But continuously monitoring your DSI means you know where you stand. Leveraging these insights, you can make production changes to ensure you always have room to pivot when challenges arise.
Revealing sources of waste
DSI also helps with waste identification and reduction. Specifically, a high rate translates to increased maintenance, security, rent, and labor expenses. If you hold inventory for longer periods, you’ll spend more to house and protect those assets.
With DSI, you can determine which goods are sitting too long and adjust your stock management processes accordingly to reduce waste. In this way, DSI functions as a great stock management mechanism.
Streamlining expense planning
Over time, patterns will begin to emerge in your stock flow. Tracking DSI illuminates trends and helps you use these insights to improve your expense planning process. You can predict the average storage and maintenance costs of holding inventory and factor the expenses into your long-term budget.
The better you get at calculating this ratio and applying it to your budgeting, the more efficient your business becomes. As a result, you can consistently maintain optimal inventory levels while protecting your liquidity.
Informing restocking decisions
The DSI metric is an excellent tool for directing your restocking decisions. Once you know how long your inventory is sitting, you can delve into the sales data more, find out which SKUs are selling slower than others, and adjust your reordering time accordingly. Say one of your less popular items has a DSI of 30 days — you wouldn’t want to reorder every two weeks.
The goal is to hold goods for as few days as possible without risking a stock out. Holding goods too long damages liquidity and can lead to missed opportunities. Conversely, keeping too little inventory on hand may result in disappointed customers.
How to calculate days sales in inventory
The average days sales in inventory formula is as follows:
DSI = (average inventory/cost of goods sold) x 365 days
When calculating this figure, first obtain the dollar value of raw materials, works-in-progress (WIPs), and finished goods. You can usually locate this data on your balance sheet’s line items.
Next, determine a given period’s average inventory level. You can usually calculate this by adding your starting and ending inventory together and dividing by two.
If you started with 100 units and finished with 50, the sum would be 150. Once you divide by two, you’re left with 75, which is your average for the period.
Then, calculate the total cost of goods sold (COGS) during the same period. This figure includes labor, raw materials, and any other stock and sale expenses. The COGS formula is:
COGS = starting inventory + purchases – ending inventory
Finally, you can calculate the DSI. In our first example formula, we used 365 days, but you can adjust this figure to align with your examination period. For instance, you could calculate the DSI ratio for a 30, 60, or 90-day period.
After crunching the numbers, analyze your results, comparing figures with historical company performance and industry averages for a clearer picture.
What does a short days sales in inventory cycle indicate?
A DSI ratio lower than the industry average means your company is probably understocking. Of course, it’s not easy to figure out the industry average. Few companies (especially small businesses) publish such proprietary information. But you can contact business owners and ask for general information and see how your business matches up.
It is important to note that you can’t examine DSI data in a vacuum. You must also consider performance metrics like stockouts, backorders, and average order delivery times.
If the ratio is low but all these other figures are within normal thresholds, you’ll have to dig deeper to pinpoint the source of the issue.
What does a long days sales in inventory cycle indicate?
A longer-than-average ratio suggests that your company is holding too much stock or sales have slowed. Often, it’s a combination of both. Again, look at complementary data points to add context to your calculation.
A days sales in inventory calculation example
Suppose your company’s COGS is $8 million. Your inventory balance for the current period is $1.2 million, and the previous year’s balance is $800,000. Together, these figures average $1 million.
Using these metrics, you can calculate your DSI by dividing the average balance ($1 million) by your COGS ($8 million) and then multiplying by the period. In this scenario, you want to determine your DSI for the year, so you’ll multiply by 365 days:
DSI = ($1 million/$8 million) x 365 days
DSI = 46 days
Again, you can adjust the periods according to your needs. Just make sure you’re using the same period for all calculations. If you use COGS data from the last 90 days, you must also multiply by 90 days in the DSI formula.
What’s the average number of days to sell inventory?
The average time to sell inventory varies by industry. Typically, businesses will compare their DSI numbers to their competitors’ to see how they stack up. But this approach can be misleading due to variations in each company’s business model.
For example, a company that deals in shelf-stable consumer goods and perishable food items might compare its DSI to another big box retailer. But if the second company carries fewer perishable items, they’ll have a longer DSI. That doesn’t necessarily mean their inventory management workflows are less efficient. Additional data is necessary to determine this.
Assess stock flow with Fishbowl
DSI is a valuable metric, but it’s only one piece of the puzzle. That’s why your organization needs holistic inventory management software that captures and analyzes performance data. Enter Fishbowl.
Fishbowl is an all-in-one inventory management solution designed to help you manage and track stock levels and monitor every sale. Explore Fishbowl today and take the guesswork out of managing your inventory once and for all.