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Understanding GMROII.
Gross Margin Return on Inventory Investment
Gross Margin Return on Inventory Investment (GMROII) is a ratio that measures a retailer's return on every dollar that is spent on inventory. This formula measures the productivity of inventory with the relationship between total sales , gross profit margin on those sales, and the number of dollars invested in inventory. When a retailer purchases inventory, the retailer is actually investing money and the retailer must attempt to earn a return on the investment in inventory. Investing in inventory can tie up precious capital that can be used for other purposes.
GMROII is expressed as a percentage or a dollar multiple that shows how many times the original inventory paid back during the year. GMROII can be used for the entire store, department or an individual merchandise item. With GMROII, you can compare the relative value of merchandiseand draw conclusions about where the retailer should be concentrating efforts to achieve maximum profitability.
There are two formulas for calulating GMROII . The first basic ratio is as follows:
GMROII ( % )= Gross Margin (%) * [ Sales / Average Inventory at Cost )
or
GMROII ( $ ) = [ Gross Margin ($) / Average Inventory at Cost ]
The higher the GMROII ratio the better return a retailer is earning on its inventory.
The GMROII shows how much profit each inventory dollar produces. Inventory is one of the largest investments a retailer will make within the operation. Therefore, the retailer must carefully select and purge merchandise that will produce the greatest return on the inventory investment.
GMROII is the formula to use when considering a retailer's inventory merchandise mix. However, retailers must also consider the impact of cost of goods sold, overhead and customer preferences. These factors will weigh in on the demographic profile a retailer wishes to serve.
A retailer should not arbitrarily conclude on the basis of GMROII alone to reduce the stock of low profit merchandise and replace with higher profit merchandise. A retailer must have an overall mix of inventory to attract its target market. GMROII helps in managing the merchandise mix. However, the retailer must determine how much weight to give GMROII against other factors influencing the choice of inventory and in what quantity.
GMROII is probably most useful in comparing specific merchandise items in a store since these figures can be ranked in each category according to its rate of return. However, it can be used at the department or store level as well.