Chapter 12
Using Accounting Information
371
Operations Management Analysis
Operations management
refers to the ability of a company to manage its assets such as inventory
and accounts receivable. Accounts receivable may be a large source of cash for a company, but it
is not worth anything if it cannot be collected. As well, inventory is converted into cash by selling
it, but it must be managed properly to ensure that it can actually be sold in a timely manner. To
determine whether inventory is being managed properly, there are two ratios that can be calculated.
Inventory Turnover Ratio
Management is often concerned with the company’s ability to sell, or “turn over,” inventory. In
industries that deal with food and beverage sales, it is especially important because of the short
product life of the inventory.Throwing away expired products is just like throwing away cash.The
inventory turnover ratio is calculated as shown below.
=
Cost of Goods Sold
Inventory Turnover Ratio
Average Inventory
The inventory turnover ratio represents the number of times that the company sold its entire
inventory.The industry the company is in determines the desirable value for this ratio. For example,
hardware stores may only turn over their inventory once or twice per year because the goods do not
expire or become obsolete very quickly.The fashion industry may turn over inventory four times per
year because fashion trends tend to change quickly and with the seasons. Second Cup’s inventory
turnover ratio is calculated in Figure 12.20. Assume that the inventory balance at December 29,
2012 was $137,000.
2014
2013
Cost of Gods Sold
$7,679
$4,054
Average Inventory
(1)
$172
$130
Inventory Turnover
44.6
31.2
Industry Average
25.8
23.1
(1) Average Inventory for 2013: ($123 + $137) ÷ 2 = $130
Average Inventory for 2014: ($221 + $123) ÷ 2 = $172
_______________
Figure 12.20
Second Cup’s high inventory turnover ratio indicates that it has very little wastage, which is
important in the food and beverage industry.This is a sign of good inventory management. To get
a better understanding of what this ratio means, we can also calculate the inventory days on hand.
