Chapter 6, Problem 3MAD

The general merchandise retail industry has a number of segments represented by the following companies:

For a recent year, the following cost of goods sold and beginning and ending inventories are provided from corporate annual reports (in millions) for these three companies:

1. a. Determine the inventory turnover ratio for all three companies. Round all calculations to one decimal place.
2. b. Determine the number of days’ sales in inventory for all three companies. Use 365 days and round all calculations to one decimal place.
3. c. Interpret these results based on each company’s merchandising concept.

To determine

Determine the inventory turnover for Company C, Company W and Company N.

Explanation of Solution

Inventory turnover ratio: Inventory turnover ratio is used to determine the number of times inventory used or sold during the particular accounting period. The formula to calculate the inventory turnover ratio is as follows:

$\text{Inventory turnover}=\frac{\text{Cost of goods sold}}{\text{Average inventory}}$

The inventory turnover ratio for Company C is calculated is calculated as follows:

$\begin{array}{c}\text{Inventory turnover}=\frac{\text{Cost of goods sold}}{\text{Average inventory}}\\ =\frac{\$102,901}{8,938.5\left(1\right)}\\ =11.5\text{ Times}\end{array}$

The inventory turnover ratio for Company W is calculated is calculated as follows:

$\begin{array}{c}\text{Inventory turnover}=\frac{\text{Cost of goods sold}}{\text{Average inventory}}\\ =\frac{\$360,984}{44,805.0\left(2\right)}\\ =8.1\text{ Times}\end{array}$

The inventory turnover ratio for Company N is calculated is calculated as follows:

$\begin{array}{c}\text{Inventory turnover}=\frac{\text{Cost of goods sold}}{\text{Average inventory}}\\ =\frac{\$9,168}{1,839\left(3\right)}\\ =5.0\text{ Times}\end{array}$

Working note (1):

The average inventory of Company C is calculated as follows:

$\begin{array}{c}\text{Average inventory}=\frac{\left(\begin{array}{l}\text{Inventory, beginning of the year + }\\ \text{Inventory, end of the year}\end{array}\right)}{2}\\ =\frac{\left(\$8,908+\$8,969\right)}{2}\\ =\$8,938.5\end{array}$

Working note (2):

The average inventory of Company W is calculated as follows:

$\begin{array}{c}\text{Average inventory}=\frac{\left(\begin{array}{l}\text{Inventory, beginning of the year + }\\ \text{Inventory, end of the year}\end{array}\right)}{2}\\ =\frac{\left(\$45,141+\$44,469\right)}{2}\\ =\$44,805.0\end{array}$

Working note (3):

The average inventory of Company N is calculated as follows:

$\begin{array}{c}\text{Average inventory}=\frac{\left(\begin{array}{l}\text{Inventory, beginning of the year + }\\ \text{Inventory, end of the year}\end{array}\right)}{2}\\ =\frac{\left(\$1,733+\$1,945\right)}{2}\\ =\$1,839.0\end{array}$

Conclusion

The inventory turnover of Company C is 11.5 Times, the inventory turnover of Company W is 8.1 Times & the inventory turnover of Company N is 5.0 Times.

To determine

Compute the number of days’ sales in inventory for Company C, Company W and Company N.

Explanation of Solution

Compute the number of days’ sales in inventory for Company C:

$\begin{array}{c}\text{Number of days' sales in inventory}=\frac{\text{Average inventory}}{\text{Average daily cost of goods sold}}\\ =\left(\frac{\frac{\text{\$8,908}+\$8,969}{2}}{\frac{\$102,901}{365}}\right)\\ =\frac{\$8,938.5}{\$281.9}\\ =31.7\text{days}\end{array}$

Thus, the number of days’ sales in inventory for Company C is 31.7 days.

Compute the number of days’ sales in inventory for Company W:

$\begin{array}{c}\text{Number of days' sales in inventory}=\frac{\text{Average inventory}}{\text{Average daily cost of goods sold}}\\ =\left(\frac{\frac{\text{\$45,141}+\$44,469}{2}}{\frac{\$360,984}{365}}\right)\\ =\frac{\$44,805.0}{\$989}\\ =45.3\text{days}\end{array}$

Thus, the number of days’ sales in inventory for Company W is 45.3 days.

Compute the number of days’ sales in inventory for Company N:

$\begin{array}{c}\text{Number of days' sales in inventory}=\frac{\text{Average inventory}}{\text{Average daily cost of goods sold}}\\ =\left(\frac{\frac{\text{\$1,733}+\$1,945}{2}}{\frac{\$9,168}{365}}\right)\\ =\frac{\$1,839.0}{\$25.1}\\ =73.3\text{days}\end{array}$

Thus, the number of days’ sales in inventory for Company N is 73.3 days.

Conclusion

The Days’ sales in inventory of Company C is 31.7 days, the Days’ sales in inventory of Company W is 45.3 days, & the Days’ sales in inventory of Company N is 73.3 days.

To determine

Interpret the above calculated ratios.

Explanation of Solution

The inventory turnover ratio and number of days’ sales in inventory of all the three companies reflect the merchandising approaches of all companies. Company C is a club warehouse and it has approach of holding only items which are quickly sold. Most of the items are sold in bulk at very attractive prices.

In case of company W, it has a traditional discounter approach. Even though it has attractive pricing, the inventory movement is slower than in the case of company C.

In the case of company N, it is a high-end fashioner retailer. It offers a wide collection of specialty and unique goods that are specifically designed for fashion market rather than for general mass market. Therefore, the movement is slower than other two companies yet it has highest margin.