Over the past 15 year, many businesses have adopted sophisticated inventory tracking systems and just-in-time inventory policies. As a result, they have gotten much more efficient in their use of inventory, as shown in this chart:
Source: Wachovia Economics
This long downward trend in the inventory-to-sales ratio has recently and dramatically reversed. What happened?
As we noted in an earlier post, companies are often slow to respond to lower sales, waiting to cut production and/or reduce purchases. As managements “catch up” to the current sales reality (or as sales improve), we would expect the inventory-to-sales ratio to return to normal, lower, levels (with the associated benefits for corporate cash flow).