Which of the following is the correct equation to use when calculating inventory turnover?

• A. Inventory Turnover = \frac{Gross\ Profit}{Average\ Inventory}
• B. Inventory Turnover = \frac{Cost\ of\ Goods\ Sold}{Average\ Inventory}
• C. Inventory Turnover = \frac{Operating\ Expenses}{Average\ Inventory}
• D. Inventory Turnover = \frac{Net\ Sales}{Ending\ Inventory}

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the concept of inventory turnover. Inventory turnover measures how efficiently a company manages its inventory by calculating how many times inventory is sold and replaced during a specific period.
2. Step 2: Recall the correct formula for inventory turnover. The formula is: Inventory Turnover = \frac{Cost\ of\ Goods\ Sold}{Average\ Inventory}. This formula is used because 'Cost of Goods Sold' represents the cost of inventory sold during the period, and 'Average Inventory' represents the average amount of inventory held during the same period.
3. Step 3: Analyze why other formulas provided in the problem are incorrect. For example: \frac{Gross\ Profit}{Average\ Inventory} is incorrect because gross profit does not directly relate to inventory turnover. Similarly, \frac{Operating\ Expenses}{Average\ Inventory} is incorrect because operating expenses are unrelated to inventory management. Lastly, \frac{Net\ Sales}{Ending\ Inventory} is incorrect because net sales do not account for the cost of inventory sold.
4. Step 4: Ensure you understand the components of the correct formula. 'Cost of Goods Sold' can be found on the income statement, and 'Average Inventory' is calculated as (Beginning Inventory + Ending Inventory) / 2.
5. Step 5: Apply the correct formula to calculate inventory turnover in practice. Substitute the values for 'Cost of Goods Sold' and 'Average Inventory' into the formula \frac{Cost\ of\ Goods\ Sold}{Average\ Inventory} to determine the inventory turnover ratio.