Determining how long a piece of equipment or inventory will last in the stock can be very important. In some businesses, it can make a difference in whether the company can meet customer demands. Hence, Days of Inventory on Hand (DIH) is a very useful calculation.
Understanding Days of Inventory on Hand can give business owners a clear idea of how long their inventory will last and help them make better decisions about stocking levels.
What are Days of Inventory on Hand
The days of inventory on hand or DOH metric is used to assess how quickly a firm incorporates the average inventory available at its disposal. It’s also known as days inventory outstanding or DIO. DOH is calculated in many ways, but the most significant aspect is that it assists analysts in estimating a company’s inventory liquidity.
Inventory turnover is a ratio that measures how often, on average, inventory is sold or used in a period. The days of inventory on hand metric is the number of days it would take to sell all of the company’s inventory at the current sales pace.
How DOH works
Understanding how DOH works is vital to properly utilizing it as a metric. As mentioned, DOH is a measure of inventory liquidity, or how quickly inventory turns over. The lower the DOH, the more quickly inventory is sold, and vice versa.
The Days of Inventory on Hand lets companies determine how long they are tied up financially with their inventory. A smaller DOH means the company is doing better because it uses its inventory more efficiently and frequently and this could lead to higher profits.
Similarly, a high DOH could be an indication that a company is not selling its products as quickly as it should be, which could lead to lower profits.
DOH can also give insight into a company’s customer demand. If a company has a high DOH, it could mean that there is weak customer demand for its products. On the other hand, if a company has a low DOH, it could indicate that customer demand is high.
How to calculate DOH
Calculating DOH is simple. Here is the formula of DOH
DOH = Average Inventory / (Cost of Sales / Number of Days)
Average Inventory: The average inventory for a company can be calculated by adding the beginning inventory to the ending inventory and then dividing it by two.
Cost of Sales: The cost of sales (COGS) can be found on a company’s income statement.
Number of Days: This is typically 365 days, but it can also be the number of days in the company’s fiscal year.
Example of DOH
For example, let’s say a company has the following information
Beginning inventory: 10,000 units
Ending inventory: 12,000 units
COGS: $100,000
Number of days: 365 days
The average inventory would be
(10,000 + 12,000) / 2 = 11,000 units
The DOH would be
11,000 units / ($100,000 / 365 days) = 30.5 days
So the company, on average, has inventory for 30.5 days.
Conclusion
Understanding and utilizing the DOH metric is essential for any business because it provides valuable insight into inventory liquidity, customer demand, and a company’s overall efficiency. It can help business owners make sound decisions that will lead to increased profits.
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