While the ideal scenario is for inventory to move off the shelf as soon as possible, it’s not always a bad sign if products are stocked for a certain period. A better indication of whether a product is performing well is to calculate its days sales in inventory.
Days sales in inventory, or DSI, is the average number of days a company takes to sell its inventory.
By seeing exactly how long it takes inventory to convert to revenue, DSI reveals how effectively a company is projecting customer demand and selling its inventory.
What is days sales in inventory (DSI)?
Days sales in inventory (also known as days in inventory or inventory days on hand) is a financial ratio that measures the average number of days a company takes to sell all its inventory.
In other words, DSI indicates how long it takes inventory to convert to sales. Not only is this calculation helpful in analyzing sales efficiency, it also reveals several other insights about a company’s operations:
- Current market demand
- Accuracy of sales forecasts
- Inventory management and valuation
- Warehouse and overhead costs
- Company’s cash conversion cycle
The DSI ratio is more frequently used by analysts to measure the performance of a company. Internal teams take a more granular approach to inventory, looking at individual products and SKUS.
Days sales in inventory vs. inventory turnover
Days sales in inventory and inventory turnover are two ways of understanding how quickly inventory is being purchased by customers. The key difference is that DSI looks at how long it takes inventory to generate sales, while inventory turnover determines how often inventory sells out and needs to be restocked each period.
DSI is the inverse of the inventory turnover ratio. Companies that take a longer time to sell inventory have a high DSI and, therefore, a low inventory turnover. On the other hand, companies that frequently sell out have a low DSI and naturally higher inventory turnover.
Why using DSI can help you manage inventory efficiently
By calculating the average time it takes companies to convert inventory to sales, DSI reveals several opportunities to optimize inventory management.
For instance, inventory reorder points can be set at intervals that maximize a company’s liquidity and still meet customer demand. High inventory levels can also be adjusted to avoid holding too many products, which leads to excessive inventory carrying costs and the risk of ending up with obsolete inventory or dead stock, especially in the case of perishable goods.
DSI is a strong indicator of how successful a business is at forecasting demand, pricing products, and performing against competitors in its industry. Monitoring how DSI changes over time and how it affects other key metrics can help your company manage its inventory more efficiently.
Formula for days sales in inventory (DSI)
DSI is calculated by dividing average inventory sold in dollars by the cost of goods sold (COGS) for the same time period. Depending on a company’s accounting practices, the average inventory can be either the inventory value at the end of the period or the average of both beginning and ending inventory from your balance sheet.
Remember that no matter which method you use, the inventory value should factor in all types of inventory, including raw materials, work in progress, and finished goods.
The result is multiplied by 365 to get the number of days sales in inventory for a year. The days sales in inventory formula is as follows:
Days sales in inventory (DSI) = (Average inventory / Cost of goods sold) * 365 days
Alternatively, companies can also apply a DSI formula that uses the inventory turnover ratio:
Days sales in inventory (DSI) = 365 days / Inventory turnover ratio
How to calculate DSI with an example
To better illustrate the formula, let’s see an example of days sales in inventory for a retail company. Say the retail company has an average inventory of $2,000 and a COGS of $30,000. The following is its days sales of inventory calculation:
24.3 = (2,000 / 30,000) * 365
According to the calculation, it takes the retailer about 24 days to sell all its inventory. This means it can expect to turn its on-hand inventory into sales in under a month.
Knowing its DSI helps the retailer determine an optimal inventory order size and warehousing requirements, so it can work to increase cash flow and overall revenue.
What is a good average day sales in inventory
There is no one recommended DSI that applies to all companies. The average ratio depends on a number of factors: company size, business model, product type, industry, and more.
To accurately evaluate a company’s DSI and performance, it’s important to compare it to others in the same industry with similar profiles.
In most cases, a lower DSI is considered better as it proves a company’s ability to convert inventory into sales. The faster a company sells products, the more effective it is at achieving sales projections and generating profit.
However, some companies prefer maintaining a higher DSI to prevent stockouts and guarantee reliable order fulfillment.
How to use QuickBooks to optimize inventory management
Days sales in inventory is one of the many metrics used to optimize inventory management. To keep track of all the data needed to calculate these inventory metrics, an integrated system will automate much of the process.
QuickBooks Enterprise brings together key areas of operations, from total production and storage costs to real-time customer order status, and makes it easy to draw insights from the consolidated data.
QuickBooks automatically generates the data needed to calculate DSI: average inventory value and cost of goods sold. By having access to real-time numbers from one dashboard, you can quickly calculate DSI and determine whether any areas of inventory management need to be adjusted.
Changes can also be implemented within QuickBooks. For example, inventory reorder rules can be set and automated to prevent stockouts, or COGs can be set up to factor in freight, insurance, or other expenses to reflect true landed costs.
Final thoughts
All companies that sell physical products, from ecommerce retailers to distributors, keep close tabs on how inventory moves through the supply chain. Days in inventory provides another lens through which a company can assess its strategy.
By seeing exactly how many days it takes to convert inventory into cash, the DSI value can be combined with other metrics and used to further improve a company’s inventory management.
