How to Use the Days Sales in Inventory Liquidity Metric
How long does it take for a company to turn its inventory into sales? Companies can answer this question with the days sales in inventory liquidity metric. The days sales in inventory metric looks like this:
To use this equation, follow these steps:
Find the ending inventory on the balance sheet at the end of the year (the value of the inventory listed at the end of the year is the ending inventory) and the cost of goods sold (COGS) in the revenue portion of the income statement (usually somewhere near the top).
Divide cost of goods sold by 365.
Because cost of goods sold includes the costs of making a product without all the additional business costs (for example, it includes the materials to make the product but not the cost of janitorial), dividing this number by 365 tells you how much money a company is spending on average per day to make a product.
Divide the value of the ending inventory by the answer from Step 2 to find out how many days it takes a company to sell the total value of its inventory.
Of course, the company continues to make more inventory, but measuring the inventory at the end of the previous year gives you the amount of sales you’re comparing the days sales in inventory to. A lower number means the company is selling its inventory faster, while a higher number means the company takes longer to sell its inventory.