The asset turnover ratio can be used as an indicator of the efficiency with which a company is using its assets to generate revenue. Watch the video below on Everything you want to know about Asset Turnover Ratio:. Asset Turnover ratio measures the efficiency of a company. This tells us about how efficiently a company is utilizing its assets to generate sales. This ratio should be used to compare different companies in the same sector.
Comparing the asset turnover ratio of one Auto Company with another cement company will not make much sense. The higher the asset turnover ratio, the more efficient a company is at generating revenue from its assets. Conversely, if a company has a low asset turnover ratio, it indicates it is not efficiently using its assets to generate sales which might be due to excess production capacity, poor collection methods, or poor inventory management.
Historical data may not always be a fool proof way towards future perception as the industrial and economic conditions may wary every year. Moreover some companies are asset light whereas some companies are asset heavy.
So it might seem redundant to use these ratios at times. The benchmark asset turnover ratio can vary greatly depending on the industry. Industries with low profit margins tend to generate a higher ratio and capital-intensive industries tend to report a lower ratio. Suppose a company say A has sales of 10 crores in a financial year and its total fixed assets are Rs 7. Similarly if another company say B has sales worth 5 crores and its fixed assets is 2 crores. Hence the future business prospects of company B are better than company A only by analysing this ratio.
StockEdge gives us Asset turnover ratio of the last five years of any company listed in the stock exchange. We can look and compare Asset turnover ratio of any company and filter out stocks accordingly.
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The higher the asset turnover ratio, the more efficient a company is at generating revenue from its assets. Conversely, if a company has a low asset turnover ratio, it indicates it is not efficiently using its assets to generate sales. Below are the steps as well as the formula for calculating the asset turnover ratio.
The asset turnover ratio uses the value of a company's assets in the denominator of the formula. To determine the value of a company's assets, the average value of the assets for the year needs to first be calculated.
Typically, the asset turnover ratio is calculated on an annual basis. The higher the asset turnover ratio, the better the company is performing, since higher ratios imply that the company is generating more revenue per dollar of assets. The asset turnover ratio tends to be higher for companies in certain sectors than in others. Retail and consumer staples, for example, have relatively small asset bases but have high sales volume—thus, they have the highest average asset turnover ratio.
Conversely, firms in sectors such as utilities and real estate have large asset bases and low asset turnover. Since this ratio can vary widely from one industry to the next, comparing the asset turnover ratios of a retail company and a telecommunications company would not be very productive.
Comparisons are only meaningful when they are made for different companies within the same sector. Let's calculate the asset turnover ratio for four companies in the retail and telecommunication-utilities sectors—Walmart Inc. Since these companies have large asset bases, it is expected that they would slowly turn over their assets through sales. Target's turnover may indicate that the retail company was experiencing sluggish sales or holding obsolete inventory.
Furthermore, its low turnover may also mean that the company has lax collection methods. The firm's collection period may be too long, leading to higher accounts receivable. Target, Inc.
The asset turnover ratio is a key component of DuPont analysis , a system that the DuPont Corporation began using during the s to evaluate performance across corporate divisions. The first step of DuPont analysis breaks down return on equity ROE into three components, one of which is asset turnover, the other two being profit margin, and financial leverage.
The first step of DuPont analysis can be illustrated as follows:. Sometimes, investors and analysts are more interested in measuring how quickly a company turns its fixed assets or current assets into sales. In these cases, the analyst can use specific ratios, such as the fixed-asset turnover ratio or the working capital ratio to calculate the efficiency of these asset classes. The working capital ratio measures how well a company uses its financing from working capital to generate sales or revenue.
While the asset turnover ratio considers average total assets in the denominator, the fixed asset turnover ratio looks at only fixed assets. The fixed asset turnover ratio FAT is, in general, used by analysts to measure operating performance. The fixed asset balance is used net of accumulated depreciation. Depreciation is the allocation of the cost of a fixed asset, which is spread out—or expensed—each year throughout the asset's useful life.
Typically, a higher fixed asset turnover ratio indicates that a company has more effectively utilized its investment in fixed assets to generate revenue. While the asset turnover ratio should be used to compare stocks that are similar, the metric does not provide all of the detail that would be helpful for stock analysis.
It is possible that a company's asset turnover ratio in any single year differs substantially from previous or subsequent years. Investors should review the trend in the asset turnover ratio over time to determine whether asset usage is improving or deteriorating. The asset turnover ratio may be artificially deflated when a company makes large asset purchases in anticipation of higher growth. Likewise, selling off assets to prepare for declining growth will artificially inflate the ratio.
Also, many other factors such as seasonality can affect a company's asset turnover ratio during periods shorter than a year.
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