CPIM Practice Exam

What is the formula for calculating inventory turnover?

1. Annual sales/average inventory in dollars

2. Annual COGS/average inventory in dollars

3. Average inventory in dollars/annual sales

4. Average inventory in dollars/annual COGS

The correct answer is: Annual COGS/average inventory in dollars

The formula for calculating inventory turnover is annual cost of goods sold (COGS) divided by average inventory in dollars. This metric helps businesses understand how efficiently they are managing their inventory by showing how many times inventory is sold and replaced over a specific period. Using annual COGS provides a direct measure of how much inventory is being utilized to generate revenue, reflecting the flow of inventory in relation to sales. When companies have a high inventory turnover, it suggests that they are selling their products efficiently, indicating strong demand relative to their inventory levels. This can be particularly important for managing cash flow and reducing holding costs. The other options do not accurately represent the conventional formula for inventory turnover, as they either invert the relationship between sales and inventory or focus on metrics that are not directly meaningful for turnover ratios. Thus, the correct way to calculate inventory turnover is through the ratio of annual COGS to average inventory.