Stock Turnover Ratio
Chapter Thirty-Five
Syllabus topic 3, "Revenue Statement Ratio: i) Gross Profit Ratio ii) Expenses Ratio iii) Operating Ratio iv) Net Profit Ratio v) Net Operating Profit Ratio vi) Stock Turnover Ratio"
Pages 92 to 93 of 162
In one line
The stock turnover ratio says how many times in the year the average stock was sold and replaced.
The formula
Stock turnover ratio = Cost of goods sold / Average stock
Expressed in times. And the same fact in days:
Stock holding period = 365 / Stock turnover ratio
| Element | What it is |
|---|---|
| Cost of goods sold | Opening stock + purchases + direct expenses, less closing stock. Equally, net sales less gross profit |
| Average stock | (Opening stock + closing stock) / 2, where both are given |
Where only the closing stock is given, use it and say so. Where the question gives sales but not cost of goods sold and no gross profit, sales may be used and the answer must say that it has been, since the ratio is then inflated by the margin.
Why cost of goods sold and not sales
Because the stock is carried at cost. Dividing a figure at selling price by a figure at cost mixes two bases and inflates the ratio by exactly the margin.
| Rs | |
|---|---|
| On cost of goods sold: 14,00,000 over 2,80,000 | 5.00 times |
| On sales: 20,00,000 over 2,80,000 | 7.14 times |
The same company and two answers. The first is the ratio; the second is the ratio multiplied by 100 over 70, which is the reciprocal of the cost ratio.
Worked on Sunrise
| Rs | |
|---|---|
| Opening stock, 1 April 2026 | 2,60,000 |
| Closing stock, 31 March 2027 | 3,00,000 |
| Average stock | 2,80,000 |
| Rs | |
|---|---|
| Cost of goods sold | 14,00,000 |
| Stock turnover ratio | 5.00 times |
| Stock holding period, 365 over 5 | 73 days |
Sunrise sold and replaced its stock five times in the year, holding it for about seventy-three days on average.
Interpretation
| Stock turnover | Usually means |
|---|---|
| High, relative to the trade | Stock is moving fast; less money tied up; less risk of obsolescence. But check for stock-outs and lost sales |
| About the trade average | Satisfactory |
| Low | Money tied up in stock; risk of obsolescence, damage, and a fall in value. Or slow-moving lines that should be cleared |
There is no universal standard and the trade decides. A baker turns stock over hundreds of times a year; a jeweller twice. Comparing Sunrise's 5 times with a number from another industry is worthless.
Compare with last year and with a competitor, and where a question gives you a falling turnover with a rising gross profit ratio, suspect the closing stock figure, because overvaluing the closing stock does both at once.
The pair that gives away an overvalued stock
| If the closing stock is overvalued | |
|---|---|
| Cost of goods sold | Understated, since it is arrived at after deducting closing stock |
| Gross profit and gross profit ratio | Overstated |
| Average stock | Overstated |
| Stock turnover ratio | Understated twice over, once in the numerator and once in the denominator |
The rest of this chapter
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The rest of this subject
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