Business Administration 2257 Study Guide - Final Guide: Inventory Turnover, Xnet, Purch Group
30 Apr 2018
School
Department
Professor
Investment Utilization
Profitability
Stability
Liquidity
Growth
Ratio
Formula
Meaning
Desired Trend
COGS to
Sales
(COGS/Net Sales) x 100
The % of COGS relative to sales
Helps measure the relative cost of inputs
The lower the ratio, the lower the costs
Gross Profit
to Sales
(Gross Profit/Net Sales) x 100
Aka margins
The % of Gross Profit earned on sales
(Inverse of COGS % of sales)
The higher the ratio, the higher the cut
received on each sale
Op. Expenses
to Sales
(Op. X/Net Sales) x 100
The % of any/all operating expenses relative to sales
Measures the relative impact of operating expenses
The lower the ratio, the lower the expense
relative to sales
Net Income
to Sales
(Net Income/Net Sales) x 100
%of Net Income earned for every sales dollar
Measures ultimate profitability
The higher the ratio, the more profitable
each sale
Return on
Assets (ROA)
%
Net Income/Avg. Total Assets
What kind of return are the fixed assets generating?
May also use EBIT instead of net income
May also use E/B in total assets instead of average
High return = good use of assets
Return on
Equity (ROE)
Net Income/Avg. SH Equity %
What is the maximum return available to shareholders?
May also use E/B in SHE instead of avg
High return = happy shareholders/owners
Inventory
Turnover
COGS/avg inventory
My use E/B in inv. Instead of
avg
How many times a year is the inventory being sold?
Measures the speed of inventory coming in/going out
Also see age of inventory
Higher is better
Too low – inventory sitting around too long
(obsolescence)
Too high – may not have enough inventory
to meet demand (stock-outs)
Fixed Asset
Turnover
Net Sales/Avg Net Fixed Assets
May use E/B in Net Fixed
Assets instead of avg
How many sales dollars are earned for e very dollar of
fixed assets?
Helps measure how useful the fixed assets are to the
business
Higher is better
Too low- may have useless assets that can
be sold
Too high – may be sign that assets are old
and need replacing (high accumulated
amortization lowers denominator)
Total Asset
Turnover
Net Sales/Avg total assets
May use E/B in total assets
instead of avg
How many sales dollars are earned for every dollar of
asset?
Helps measure the usefulness of the assets
Higher is better
Too low – useless assets
Too high – not enough assets, maybe
forgoing opportunities
Net Worth to
Total Assets
Total equity/total assets
What percentage of the business is owned by equity?
Too high – likely underleveraged thereby reducing ROE.
Debt is cheaper than equity; use if possible
Higher is safer
Too low – too much debt
Total Debt to
Total Assets
Total liabilities/total assets
What percentage of the business is financed through
debt
Lower is safer(opposite reasoning^)
Debt to
Equity (D/E)
Total liabilities/total equity
# of times of debt for every dollar of equity
Lower is safer
Too high – too highly leveraged (too much
debt or too small equity base)
Too low- inefficient use of equity
Interest
Coverage
Earnings b4 interest/Interest
on LT debt
# of times a company can cove interest payments
Higher the better (lenders need assurance
interest can be paid)
Current Ratio
Total CA/Total CL
# of times ST assets can cover ST debt
Indicates ability to meet ST obligations when they’re
due
Higher to a point of 2:1 (rule of thumb)
Too low- may lead to insolvency
Too high-inefficient use of capital (since CA
usually have lowest return)
Acid Test
(Cash+Trading
investments/AR)/Total CL
Indicates ability to meet short term payments using the
most liquid of assets
Higher to a point of 1:1 (rule of thumb) –
see current ratio
Working
Capital
CA-CL
Net amount of money tied up in working capital
Higher is safer, but WC has low return; if
too high, money better spent elsewhere
Age of
Receivables
AR/Avg daily sales
Age (in days) of the avg outstanding credit sales balance
Too low – credit policies are too tight/scaring off
business
Should be close to industry (preferably on
lower end)
Too high – customers are putting you in a
needless cash squeeze
Age of
Inventory
(E/B Inventory)/ Avg daily
COGS
Days on average an item of inventory is in stock
See inventory turnover
Too low- stock outs may arise (insufficient inv stock)
Close to industry average (pref on low side)
Too high- excess inv (waste of cash)
Age of
Payables
AP/avg daily purchases
If purch not available, use
COGS as proxy (AP/avg daily
COGS)
Assumes that majority/all of AP results from purchase of
materials for resale
Shows how long (on avg) it takes to pay the suppliers in
days
Close to industry average (higher side pref)
Too low- can get more ST cash by taking
longer to pay (borrow from customers
longer)
Too high- could get a reputation and have
credit privileges cut off
Profit Growth
(yr2 profit-yr1profit)/yr1 profit
How much has profit changed over past 2 op. periods
Profit growth is good (want high)
Sales Growth
(yr2sales-yr1sales)/yr1sales
How much sales have changed over past 2 op. periods
(otherwise harmful if sales grow but profit decrease)->
Sales growth is good but should be
proportional to profit growth
Asset Growth
Same thing but w/assets
Same thing but with assets
Asset growth should be proportional to
sales and profit growth
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Document Summary
Turnover (cogs/net sales) x 100 (gross profit/net sales) x 100. The % of gross profit earned on sales (inverse of cogs % of sales) The % of any/all operating expenses relative to sales. Measures the relative impact of operating expenses (net income/net sales) x 100 %of net income earned for every sales dollar. May also use ebit instead of net income. May also use e/b in total assets instead of average. May also use e/b in she instead of avg. Measures the speed of inventory coming in/going out. Helps measure how useful the fixed assets are to the business. May use e/b in total assets instead of avg. Too high likely underleveraged thereby reducing roe. Debt is cheaper than equity; use if possible. What percentage of the business is financed through debt. # of times of debt for every dollar of equity y t i l i b a t i f o r.
