How to Calculate Days Inventory on Hand
Master the calculation of Days Inventory on Hand, a crucial financial metric for assessing how efficiently a business manages its stock.
Days Inventory on Hand (DIOH) serves as a financial metric that indicates the average number of days a company holds its inventory before selling it. This measurement offers insights into the efficiency of a company’s inventory management practices. By analyzing this figure, businesses can assess how quickly they convert their inventory into sales.
Key Financial Information Needed
Calculating Days Inventory on Hand requires specific financial data, typically found within a company’s financial statements. A primary component needed is the Cost of Goods Sold (COGS), which represents the direct costs attributable to the production of the goods sold by a company. These direct costs generally include the cost of raw materials, direct labor involved in manufacturing, and manufacturing overhead. COGS is reported on a company’s income statement.
Another essential piece of information is the value of Inventory. Inventory refers to the raw materials, work-in-process goods, and finished products that a company holds for sale. This asset is recorded on a company’s balance sheet, typically under current assets.
To perform the DIOH calculation accurately, one must determine the Average Inventory for a given period. This is calculated by taking the sum of the beginning inventory and the ending inventory for the period and then dividing that sum by two. Both beginning and ending inventory figures are found on the balance sheet.
The Days Inventory on Hand Formula
The formula for calculating Days Inventory on Hand involves dividing the average inventory by the cost of goods sold and then multiplying the result by the number of days in the period. The standard formula is expressed as: DIOH = (Average Inventory / Cost of Goods Sold) 365.
This formula directly relates the amount of inventory held to the cost of selling that inventory over a year. The “365” represents the number of days in a typical year, converting the inventory turnover ratio into a daily measure. This mathematical relationship provides a standardized way to measure how many days inventory remains in stock.
Performing the Calculation
Consider a hypothetical company with the following financial figures for a fiscal year: Beginning Inventory of $150,000, Ending Inventory of $170,000, and Cost of Goods Sold (COGS) of $900,000. The first step involves calculating the Average Inventory. This is done by adding the beginning and ending inventory values and dividing by two.
Using the hypothetical numbers, the Average Inventory would be ($150,000 + $170,000) / 2, which equals $160,000. This average represents the typical value of inventory held throughout the year. Once the Average Inventory is determined, these figures can be used in the Days Inventory on Hand formula.
Plugging these values into the formula, DIOH = ($160,000 / $900,000) 365. Performing the division first, $160,000 divided by $900,000 is approximately 0.1778. Multiplying this result by 365 days yields approximately 64.8 days. The Days Inventory on Hand for this hypothetical company is about 64.8 days.
Understanding What the Number Means
The calculated Days Inventory on Hand figure indicates the average duration inventory is held before being sold. A higher number suggests inventory is held for a longer period, meaning a company’s capital is tied up in inventory for an extended duration.
Conversely, a lower Days Inventory on Hand number indicates inventory is sold more quickly. This implies a faster turnover of goods and reflects the speed at which a business moves its products from stock to sales.