Run the numbers to make profitable business decisions
How do you decide to invest, or to continue to invest, in a product? When holding inventory, you are investing in a product. (As in frame board management, so in contact lens dispensing.)
Of course, you want to make sure the product is in the best interest of the patient. And, since you will be spending a considerable sum to purchase an inventory, the product must be analyzed from a business-accounting perspective too. For a retail environment, this is done by evaluating how quickly you can turn that inventory. These two accounting calculations may help a practice evaluate its investment in a product:
1. INVENTORY TURNOVER RATE
Contact lens boxes sold in a year divided by the number of boxes in the stock purchase equals the number of times the inventory is sold. (This calculation can be done over any specific period, but one year is common.)
Take Brand X contact lenses. The stock purchase is 200 boxes. The eye care practice sold 800 boxes of that brand of lenses in the past year. A total of 800 divided by 200 brings the inventory turnover rate to four. This means the eye care practice sold and replaced the inventory four times in a 12-month period. (This also can be calculated on the dollars associated with the purchases. To do so, divide the annual cost of goods sold by the cost of the inventory.)
Inventory turnover rate will be unique to each practice situation. In my practice, I want the annual inventory turnover rate to be at least three before investing in a product. Less means the inventory is taking too long to sell.
TURNOVER RATE EXAMPLE
2. DAYS IN INVENTORY
Retail establishments use this number all the time. Divide 365 by the inventory turnover rate. Taking our last example, 365 divided by 4 is 91.25 days.
This is related to the turnover rate, but broken down to the number of days that inventory is expected to be sitting on your shelf before selling. Stated another way, this is the number of days your funds are tied up in that inventory purchase.
Again, while this metric is unique to the practice, days in inventory at my practice needs to be less than 120 days. Anything longer does not make sense to invest for my practice.
SHOULD I INVEST?
Look at the cost to purchase an inventory for your practice, and then run these two calculations. Although an inventory purchase may be an asset, if it takes too long to sell through, it is really a liability. It ties up cash that could be used for other purposes. If the inventory turnover is higher, the days in inventory fewer, it, therefore, makes sense to invest. OM