What it means
The ratio compares the value of stock held against the cost of the goods actually sold during a period. Expressing the result in days makes it easy to understand, because it translates a balance sheet figure into a plain statement about how long stock hangs around.
It matters because inventory is cash in another form. Every extra day of stock is money that has been paid to suppliers but has not yet come back through a sale, which is why days sales of inventory is one of the three components of the cash conversion cycle.
The calculation uses cost of goods sold rather than revenue, because inventory is carried at cost on the balance sheet. Using revenue in the denominator mixes cost based and price based figures and produces a flatteringly low number that means very little.
Interpretation is entirely industry dependent. A supermarket might turn stock in under 20 days, an engineering firm holding spare parts might sit at 150 days, and neither figure is good or bad without the comparison to peers and to the company's own history.
Two practical cautions apply. Seasonal businesses should use an average of opening and closing inventory rather than a single year end figure, and a falling ratio is only good news if it reflects better stock discipline rather than stockouts and lost sales.
The ratio is most useful when broken down rather than viewed in total. A single company wide figure can hide fast moving lines subsidising obsolete ones, so calculating it by product category or location usually points straight at where the trapped cash actually sits.
In practice
Real-world examples
Example 1
A garden centre reports 95 days of inventory at its December year end and 38 days in June. The finance team switches to a quarterly average so the bank sees a realistic picture rather than a snapshot taken at the deepest point of the seasonal stock build.
Example 2
An electronics distributor watches its days sales of inventory rise from 44 to 63 over three quarters. Investigating by product line shows one discontinued range accounts for nearly all of the increase, and clearing it at a discount recovers most of the trapped cash.
Example 3
A food producer cuts inventory days from 30 to 21 by moving to weekly ordering. Cash improves and wastage falls, but stockouts rise and two supermarket customers complain about short deliveries, so management settles at 25 days as the point where service levels stay acceptable and the cash benefit is still worth having.
Think of it
Think of DSI like milk in your fridge. If you buy more than your family can drink before the expiry date, it spoils and wastes money. DSI measures how many days your business takes to finish the milk carton.
Formula
Calculation
Days sales of inventory = (average inventory / cost of goods sold) x 365
A specialist retailer reports cost of goods sold of $7,300,000 for the year. Inventory was $1,150,000 at the start of the year and $1,250,000 at the end.
Average inventory: ($1,150,000 + $1,250,000) / 2 = $1,200,000
Days sales of inventory: ($1,200,000 / $7,300,000) x 365 = 0.164384 x 365 = 60.0 days
The related inventory turnover is $7,300,000 / $1,200,000 = 6.08 times a year.
If the business tightened purchasing and brought the figure down to 50 days, the inventory it would need is $7,300,000 x (50 / 365) = $1,000,000. That releases $1,200,000 - $1,000,000 = $200,000 of cash without any change in sales.Case study
Seen in the real world
Ashcombe Tools is a fictional, illustrative hardware wholesaler with cost of goods sold of $18,250,000 and average inventory of $3,000,000. Its days sales of inventory was ($3,000,000 / $18,250,000) x 365 = 60.0 days, which the owners considered normal for the trade.
A cash squeeze forced a closer look. In this illustrative example an item by item review found that 20% of stock value had not moved in over a year, and clearing it reduced average inventory to $2,400,000, giving ($2,400,000 / $18,250,000) x 365 = 48.0 days.
The $600,000 released paid down a revolving credit facility carrying 9% interest, saving $54,000 a year in interest. Sales were unaffected, which confirmed that the stock had been financing storage rather than customers.
Watch out
Common mistakes
- Using revenue instead of cost of goods sold in the denominator. Inventory is held at cost, so mixing in a selling price figure understates the true number of days.
- Using only the year end inventory balance. Seasonal businesses that count stock at their quietest point produce a ratio that flatters them badly.
- Assuming lower is always better. Very low inventory days can mean the business is running out of stock and losing sales it never sees or records.
Questions
People also ask
Is days sales of inventory the same as inventory turnover?
They are the same information expressed differently, since days sales of inventory equals 365 divided by the turnover figure.
What is a good number to aim for?
There is no universal figure, so compare against direct competitors and against the business's own trend rather than a general benchmark.
How does it connect to cash flow?
It forms part of the cash conversion cycle alongside receivable days and payable days, and reducing it releases cash directly into the bank.