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Asset Turnover Ratio
Total Asset Turnover Ratio: Total asset turnover ratio is used to measure operating
performance. It is defined as the ratio between net sales and total assets. The
ratio measures the revenue that is generated for every dollar of asset owned by
the company. The formula for calculating the total asset turnover ratio is as
follows:
Total Asset Turnover Ratio = Net Salesn /
Average Total Assets
Where
Total Assets = Liabilities + Shareholders' Equity
Average Total Assets = Total Assetsn +
Total Assetsn-1
n = Year
Fixed Asset Turnover Ratio: Fixed Asset Turnover Ratio measures the revenue that is generated
by the company/management per dollar of fixed assets. The formula for fixed
asset turnover ratio is as follows:
Fixed Asset Turnover Ratio = Revenuen /
Average Fixed Assets
Where
Fixed Assets refer to Property, Plant and Equipment
Average Fixed Assets = Fixed Assetsn +
Fixed Assetsn-1
n = Year
Asset Turnover Ratio - Analysis
Asset turnover ratios help to measure the
effectiveness with which the company/management uses its assets to generate
sales or revenue. These ratios help to measure the productivity of a company's
assets. A high asset turnover ratio is desirable as compared to a low ratio
since the former is indicative of better operating performance. A higher asset
turnover ratio symbolizes greater shareholder wealth.
Total assets include current assets, fixed assets and intangible
assets such as licenses and goodwill. Fixed assets entail huge initial
investments that are undertaken with the hope of maximizing revenue. Hence, the
fixed-asset turnover ratio is a better measure of operating performance as
compared to the total asset turnover ratio.
The amount of capital investment varies depending on the type of
business. For instance, oil production and refining and the telecommunications
industry is highly capital intensive while the restaurant business or for that
matter, agriculture, is labor intensive. The proportion of labor costs in
relation to the capital required, for producing a given volume of goods and
services, is used to determine whether the process is labor intensive or capital
intensive.
Fixed asset turnover ratio is more relevant for capital intensive
industries since the size of the fixed asset base depends on whether the process
of production is labor intensive or capital intensive. In general, companies
that are labor intensive have a higher fixed asset turnover ratio as compared to
companies that are capital intensive. Hence, one should compare firms within the
same industry rather than comparing them across industries to get a true picture
of a firm's relative operating performance. One should also compare a firm's
past performance with the current performance for a better understanding of the
company's prospects.
Net Profit Margin is a measure of profitability and is defined as
the ratio between Net Income and Revenue.
Net Profit Margin = Net Income / Revenue
An inverse relationship exists between profit margin and turnover
ratio. For instance, if the net profit margin is high, revenue or net sales will
be low, thus resulting in a low turnover ratio.
Calculating the asset turnover ratio is a simple task, especially
since asset turnover ratio calculators are available online. Along with the
asset turnover ratio, a number of other financial ratios have to be examined
before deciding on whether to buy stocks or refrain from investing in the company. In other words, financial
statement analysis is indispensable for choosing the most suitable investment.
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