What Is Gross Margin Return on Inventory Investment (GMROI)?
In this article, learn about:
Measuring the investment in your inventory
GMROI’s definition and why it matters
GMROI calculations and industry benchmarks
Improving your return on inventory investment with practical tips
Understanding how well your inventory works for you is a key piece of knowledge in the supply chain world. With shrinking budgets, looming tariffs, and increasing uncertainties, it can be beneficial to have reliable data and formulas to help guide decisions.
Retailers big and small want to ensure that their warehouses and shelf space are filled with items that sell quickly. Some retailers, like Walmart and Amazon, use a key metric called Gross Margin Return on (Inventory) Investment (GMROII). This metric is key to understanding retail profitability, so keep reading to learn how to calculate GMROI, its benefits, and strategies to improve your investment in inventory.
What is Gross Margin Return on Investment?
Put simply, GRMOI refers to the profit received from inventory investment. This matters because 60 to 80% of retailers’ total assets are in inventory. With such a large investment in physical goods, it’s imperative to understand how each piece of inventory is performing.
This metric is intriguing because it goes far deeper than simple sales or gross margins. GMROI factors in all expenses related to acquiring, holding, and preparing inventory, so you can gain a truer picture of the productivity of your inventory investments. This can help you determine which products to carry.
In essence, tracking GMROI is a fast, easy, and powerful tool that allows retailers and suppliers to gauge the efficiency and profitability of their inventory investment, helping them make informed decisions to get more "bang for the buck" from every dollar tied up in inventory stock.
How to Calculate GMROI
GMROI is calculated by dividing your gross margin by the average inventory cost.
Gross (Profit) Margin: A dollar amount of revenue after accounting for Cost of Goods Sold (COGS). To get your gross margin, you must know your total revenue and cost of goods sold. This calculates the profit generated after accounting for additional costs like labor, supplies, storage fees, etc.
Average Inventory @ Cost: The monetary value/worth of inventory over a specific period of time. This is calculated by adding the beginning and ending inventory together and dividing by the number of data points.
It’s important to note that the GMROI formula can vary significantly depending on the business situation. Businesses may factor in additional costs based on their accounting practices and industry standards. Next, we’ll cover a few practical examples of GMROI in retail.
Related Reading: For a deeper dive into retail metrics, check out our Retail Math Cheat Sheet, where you can bookmark articles, save reading progress, and more.
A Practical Example of GMROI In Retail
Let’s review a hypothetical example for a grocery store to see this calculation in action. Please be aware that these numbers are purely for demonstration and are not true benchmarks or statistics from the grocery industry.
The following information is gathered to calculate GMROI for the year.
Annual Revenue: $800,000
Cost of Goods Sold (COGS): $500,000
Beginning Monthly Inventory Costs: (see table below)
Ending December Inventory Cost: $65,000
Grocery Store Inventory Costs - Example | |
January | $70,000 |
February | $75,000 |
March | $72,000 |
April | $68,000 |
May | $73,000 |
June | $78,000 |
July | $80,000 |
August | $76,000 |
September | $74,000 |
October | $70,000 |
November | $75,000 |
December | $82,000 |
Calculate Gross Profit
Gross Profit = Annual Revenue – Cost of Goods Sold
Gross Profit = $800,000 - $500,000
Gross Profit = $300,000Calculate Average Inventory Costs for the Year
Add up all beginning inventory costs of every month (utilizing the table above as an example). This sum is $900,000.
Average Inventory Cost = (sum of beginning inventory for every month + ending inventory cost for the final month) / 13
Average Inventory Cost = ($900,000 + $65,000) / 13
Average Inventory Cost = $965,000 / 13
Average Inventory Cost = $74,230.77Calculate GMROI
GMROI = Gross Profit / Average Inventory Cost
GMROI = $300,000 / $74,230.77
GMROI = $4.04
Interpreting the GMROI Result
In the above example, the grocery store’s total inventory GMROI is approximately $4.04. This means that every dollar the store invests in its inventory generates roughly $4.04 in gross profit. Generally, a GMROI above $1 means a profitable and healthy inventory, while top-performing GMROI metrics consistently average above $4.
CPG Industry Benchmarking and Comparison
Inventory benchmarks vary significantly when examining GMROI. Overall, the higher the GMROI metric, the better the efficiency in inventory turnover and the stronger the profit generation. Businesses with a high product GMROI can reinvest profits more quickly.
We’ve compiled a list of a few different industries’ GMROI benchmarks for suppliers to be aware of when working with retailers.
CPG Industry | GMROI Benchmark | Notes |
Clothing | $2.56 |
|
Electronics | $6.21 | Has a much higher average GMROI than other sectors |
Hardware | $1.77 |
|
Beauty/ Cosmetics | $3.00 – 5.00 | High margins, fast turnover, steady demand |
Musical Instruments | $1.30 | Declining downward over the last 5 years |
Home Goods | $2.00 - $3.00 | Includes furniture |
Pet Supplies | $3.90 |
|
Benchmark Notes: These numbers are general guidelines. What counts as a “good” GMROI can vary—for example, a high-end fashion store might have a different target than a discount clothing store. Things like where the store is located, its size, and the type of business all make a difference.
Use benchmarks as a helpful reference, but also pay attention to how your own numbers change over time. A GMROI above 1.0 means the supplier is making a profit on your inventory. Many businesses aim for 3.0 or higher to show strong performance. If your number is lower than others in your industry, it might be time to review your strategy.
GMROI and Walmart’s Vendor Scorecard
If you’re a Walmart supplier, you can access your GMROI metric in Scintilla by running a report for your Vendor Scorecard. This scorecard highlights all the metrics that Walmart considers when arriving at its ultimate performance indicator, and keeps both the supplier and retailer on the same page. The result of sales, profitability, and asset efficiency metrics is the Gross Margin Return on Inventory Investment, or GMROII.
In its simplest form, GMROII indicates how much money Walmart made, in gross margin dollars, for every dollar of a supplier’s inventory that Walmart owned at cost.
Importance and Benefits of GMROI
GMROI is a critical financial metric that provides powerful insights into inventory productivity and overall business profitability. Suppliers’ GMROI is crucial for enticing retail stores to sell products, as it demonstrates the product's profitability and value. A higher GMROI makes retailers more interested, is a major key performance indicator (KPI), and provides data that shows a product won’t be a waste of shelf space.
Inventory Health
GMROI is a metric that helps you understand how much gross margin you get back for each dollar “invested” in inventory over a year. This tells you how efficiently your inventory is working to generate a profit for the retailer. With inventory typically representing 60-80% of a retailer’s assets, it makes sense they’d want to see products with a healthy GMROI.
A low GMROI metric might show inefficiencies in buying processes, low-margin products, or slow sell-through. This can help you pinpoint areas of poor inventory health and identify which lines, departments, and categories are most rewarding from an investment standpoint.
Strategic Decision Making
GMROI allows businesses to look at their products to determine the most and least productive investments in inventory. Knowing a product has a high GMROI can encourage a further push in sales and marketing efforts, for example.
This metric also helps indicate whether an item seems to be slow-moving and could benefit from discounts. When GMROI is calculated at the SKU level, it can identify high performers and aid in decisions like discontinuation. Knowing your GMROI metrics can help with demand forecasting, leading to overall cost savings and improved efficiency in the supply chain.
GMROI switches the focus from just sales volume to the productivity of every dollar invested in inventory, showing retailers that they’ll get more benefits from stocking products with healthy or high GMROI metrics.
Limitations of GMROI
As with any reasonable measure of success, there are limitations. The GMROI analysis can tell us just how profitable something is, but it should not be considered the end-all metric. Suppliers must be sure that they effectively review their financials to ensure that they truly are doing everything as cost-efficiently as possible to get the most significant return.
While powerful, GMROI can only consider gross margin and inventory carry costs. It lacks the scope and ability to account for marketing, selling, or general administrative expenses. GMROI can also falsely elevate high-turn, low-margin SKUs as high-performing, so it is best used as a relative comparison tool rather than a guiding metric.
Strategies to Improve GMROI
Now that you’ve calculated your GMROI and understand its importance, you can start making changes to show that the item is profitable, which will spur retailers to invest in selling it.
Key Levers for Improvement
One helpful illustration to improve GMROI is thinking of the following as three interconnected levers: reducing inventory, increasing sales (product turnover), and increasing margins. When all three levers are optimized, GMROI improves. When GMROI improves, profits do too.
Reduce Inventory: It is essential to balance stockouts and overstocks. Less inventory means a lower denominator for GMROI’s calculation, but customer frustration can occur if inventory gets too low.
Increase Turnover (sell more inventory): It’s expensive for retailers to hold on to inventory. So, selling items quickly can positively impact inventory efficiency.
Increase Margins: This directly boosts the numerator in GMROI’s calculation. However, if higher prices slow down customer buying habits, it can negatively affect GMROI over time.
Real World Strategies
To clarify even further, we’ve compiled some practical real-world strategies to improve GMROI. The following recommendations will assist in balancing the three levers mentioned above.
Carry Less Inventory (but the Right Inventory)
Look at sales data to determine which items you supply are slow movers. Prioritize and invest more in fast-turning, high-margin items that have predictable demand. Guide purchasing decisions with sales data to avoid overbuying. Accurate demand forecasting will also prevent overspending and inflated storage costs.
Sell More, Faster
Effective merchandising should feature best sellers and high-margin items. Encourage the sales team to be creative with upgrades, accessories, and complementary items. Strategically consider reducing product costs to give retailers more pricing wiggle room. Though this seems counterintuitive, it allows for GMROI to increase.
Sell More Profitably
Look at your vendor relationships to see if better terms can be negotiated, such as consolidating purchases. You can lower inventory costs by making your own supply chain efficient, such as reducing storage expenses. Certain products with high perceived value can handle price raises and increase GMROI.
Market Wisely
Marketing promotions should target aged inventory to get it moving. Encouraging sales and marketing to promote discounts around product lifecycles, such as end-of-season sales, keeps inventory lean. Promoting the right inventory at the right time can increase stagnant item value and improve GMROI.
Related Reading: What is Demand Planning?
GMROI: Wrapped
Gross Margin Return on Inventory Investment (GMROI) is a powerful metric that reveals which pieces of inventory are most productive and allows for educated, data-driven decision-making regarding product selection, pricing, and operational efficiencies.
Regardless of the industry, knowing your GMROI metrics provides a powerful and holistic assessment of how efficiently your largest asset, inventory, performs. The higher the GMROI on a product, the more profitable it is.
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