Or in the worst-case scenario, the product may have become obsolete and substantial discounts would be required to get rid of the inventory (or potentially incur an inventory write-down).If a company has a low DIO, that means it is converting inventory into revenue more quickly – meaning more FCFs are available for reinvestments or other purposes like paying down debt.The company may be failing to convert inventory into sales or is not managing inventory efficiently compared to others due to an ineffective marketing strategy where it fails to get enough exposure compared to others in its sector.As a general rule of thumb, lower DIO is viewed more favorably since it implies the company is more efficient at selling its inventory (and is avoiding stock-piling inventory).If the number of days it takes on average to clear out the inventory is high relative to comparable peers, there may not be enough demand for the product, the pricing might be too expensive, or it may be time to reconsider the target customer profile, etc.That is why the inventory turnover ratio and days inventory outstanding (DIO) are valuable metrics to track for companies, especially those selling physical products (e.g., retail, e-commerce). In addition to being an indicator of ordering and inventory management efficiency, a high inventory turnover ratio and low DIO means higher free cash flows. The average inventory turnover and DIO varies by industry however, a higher inventory turnover and lower DIO is typically preferred as it implies the management of inventory is closer to an optimal state. The formula for calculating DIO involves dividing the average (or ending) inventory balance by COGS and multiplying by 365 days.ĭays Inventory Outstanding = 365 Days ÷ Inventory Turnover What is a Good Days Inventory Outstanding (DIO)?Ī comparative benchmarking analysis of a company’s inventory turnover and DIO relative to its industry peers provides useful insights into how well inventory is being managed. If the inventory balance increases, that means more cash is tied up in the operations of the business, as it is taking longer for the company to sell and get rid of its inventory than it is to produce it.
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