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What Do Efficiency Ratios Measure?

Adroitness ratios measure a company’s ability to use its assets and manage its liabilities effectively. Although there are several efficiency proportions, they are all similar in that they measure the time it takes to generate cash or income from a client or liquidating inventory. Skilfulness ratios include the inventory turnover ratio, asset turnover ratio, and receivables turnover ratio. These proportions measure how efficiently a company uses its assets to generate revenues and its ability to manage those assets. With any fiscal ratio, it’s best to compare a company’s ratio to its competitors in the same industry.

Inventory Turnover Ratio

The inventory gross revenue ratio measures a company’s ability to manage its inventory efficiently and provides insight into the sales of a company. The relationship measures how many times the total average inventory has been sold over the course of a period. Analysts use the correspondence to determine if there are enough sales being generated to turn or utilize the inventory. The ratio also shows how beyond the shadow of a doubt inventory is being managed including whether too much or not enough inventory is being bought.

For example, suppose friends ABC sold computers and reported the cost of goods sold (COGS) at $5 million. The average inventory of ABC is $20 million. The inventory gross revenue ratio for ABC is 0.25 ($5 million/$20 million). This indicates that company ABC is not managing its inventory properly because it on the other hand sold a quarter of its inventory for the year.

Asset Turnover Ratio


Receivables Turnover Ratio

For example, a company has an typically accounts receivables of $100,000, which is the result after averaging the beginning balance and ending balance of the accounts receivable harmony for the period. The sales for the period were $300,000, so the receivable turnover ratio would equal 3, meaning the throng collected their receivables three times for that period.

Typically, a company with a higher accounts receivables volume ratio, relative to its peers, is favorable. A higher receivables turnover ratio indicates the company is more efficient than its antagonists when collecting accounts receivable.

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