What is GMROI?
Gross Margin Return on Investment (GMROI) is a widely-used metric for evaluating a company's inventory profitability. In other words, GMROI helps determine how efficiently a company can leverage its inventory to generate gross profit. This indicator is particularly useful for retail businesses that invest a large portion of their capital in inventory. A GMROI higher than one means that the company is making a profit on its inventory. The higher the GMROI, the better, with a GMROI of 3.2 often considered a good indicator for retail stores.
How to use a GMROI Calculator
To calculate the GMROI, the following steps are required:
Calculate the gross profit: This is obtained by subtracting the cost of goods sold from net sales.
Calculate the average inventory cost: This is the average of the beginning and ending inventory during a specific period.
Divide the gross profit by the average inventory cost to obtain the GMROI.
By following these steps, you can calculate the gross margin return on investment for a company's inventory.
Actual Example to Demonstrate the Calculator
Let's bring an example of a hypothetical company, Alpha, with the following information:
Net sales: $400,000
Cost of sold goods: $250,000
Beginning inventory: $40,000
Ending inventory: $60,000
With this information, we can calculate the GMROI as follows:
Calculate the gross profit: $400,000 (net sales) - $250,000 (cost of sold goods) = $150,000
Calculate the average inventory cost: ($40,000 + $60,000) / 2 = $50,000
Calculate the GMROI: $150,000 (gross profit) / $50,000 (average inventory cost) = $3
In this example, the GMROI equals $3, which means that the business makes $3 in gross profits for every dollar spent on inventory. We can also say this company earns gross profits of 300% of the inventory costs.