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# Asset Management Ratios

Asset Management Ratios attempt to measure the firm's success in managing its assets to generate sales. For example, these ratios can provide insight into the success of the firm's credit policy and inventory management. These ratios are also known as Activity or Turnover Ratios.

## Receivables Turnover and Days' Receivables

The Receivables Turnover and Days' Receivables Ratios assess the firm's management of its Accounts Receivables and, thus, its credit policy. In general, the higher the Receivables Turnover Ratio the better since this implies that the firm is collecting on its accounts receivables sooner. However, if the ratio is too high then the firm may be offering too large of a discount for early payment or may have too restrictive credit terms. The Receivables Turnover Ratio is calculated by dividing Sales by Accounts Receivables. (Note: since Accounts Receivables arise from Credit Sales it is more meaningful to use Credit Sales in the numerator if the data is available.)

The Days' Receivables Ratio is calculated by dividing the number of days in a year, 365, by the Receivables Turnover Ratio. Therefore, the Days' Receivables indicates how long, on average, it takes for the firm to collect on its sales to customers on credit. This ratio is also known as the Days' Sales Outstanding (DSO) or Average Collection Period (ACP).

 Example Problems Use the information below to calculate the Receivables Turnover and Days' Receivables Ratios. Sales: \$ Accounts Receivable: \$ Receivables Turnover: Days' Receivables:

## Inventory Turnover and Days' Inventory

The Inventory Turnover and Days' Inventory Ratios measure the firm's management of its Inventory. In general, a higher Inventory Turnover Ratio is indicative of better performance since this indicates that the firm's inventories are being sold more quickly. However, if the ratio is too high then the firm may be losing sales to competitors due to inventory shortages. The Inventory Turnover Ratio is calculated by dividing Cost of Goods Sold by Inventory. When comparing one firms's Inventory Turnover ratio with that of another firm it is important to consider the inventory valuation methid used by the firms. Some firms use a FIFO (first-in-first-out) method, others use a LIFO (last-in-first-out) method, while still others use a weighted average method.

The Days' Inventory Ratio is calculated by dividing the number of days in a year, 365, by the Inventory Turnover Ratio. Therefore, the Days' Inventory indicates how long, on average, an inventory item sits on the shelf until it is sold.

 Example Problems Use the information below to calculate the Inventory Turnover and Days' Inventory Ratios. Cost of Goods Sold: \$ Inventory: \$ Inventory Turnover: Days' Inventory:
 Seasonal Industries Many firms, such as department stores, are in seaonal industries in which their assets, especially current assets, and sales volume vary throughout the year. This can be of particular concern when comparing the Asset Management Ratios of one firm with another firm in the same industry. This occurs because, in the calculation of each of the Asset Management Ratios, a number from the Income Statement is divided by a number from the Balance Sheet. The Income Statement reports revenues and expenses over a period of time (usually a year) whereas the Balance Sheet reports the firms assets and liabilities on a particular date. Thus, for firms in seasonal industries differences in performance may be detected when no actual difference exists simply because their Balance Sheets are published on different dates.

## Fixed Assets Turnover

The Fixed Assets Turnover Ratio measures how productively the firm is managing its Fixed Assets to generate Sales. This ratio is calculated by dividing Sales by Net Fixed Assets. When comparing Fixed Assets Turnover Ratios of different firms it is important to keep in mind that the values for Net Fixed Assets reported on the firms' Balance Sheets are book values which can be very different from market values.

## Total Assets Turnover

The Total Assets Turnover Ratio measures how productively the firm is managing all of its assets to generate Sales. This ratio is calculated by dividing Sales by Total Assets.

 Example Problems Use the information below to calculate the Fixed Assets Turnover and Total Assets Turnover Ratios. Sales: \$ Net Fixed Assets: \$ Total Assets: \$ Fixed Assets Turnover: Total Assets Turnover:

© 2002 - 2010 by Mark A. Lane, Ph.D.