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Financial efficiency ratios
There are three main ratios that can be used to measure the financial efficiency of a
1. The asset turnover ratio.
2. The stock turnover ratio.
3. The debtor days ratio.
The asset turnover ratio
This measures the productivity of the business (i.e. how many pounds worth of sales revenue can be
generated from the assets employed?). It is calculated using the following formula:
For example, if a business has sales revenue of £8 million and net assets of £5 million, then the
asset turnover ratio would be:
This means that for every £1 of net assets, the business generates £1.60 of sales revenue. Clearly
the higher the answer, the better. It is normal for service industries (e.g. supermarkets) to have a
much higher asset turnover ratio than manufacturing industries, since service industries generate very
high sales in relation to their net assets.
The stock turnover ratio
This measures the number of times in a 12month period that a business sells its stock. It is
calculated using the following formula:
For example, if a business has a 'cost of goods sold' figure of £2 million and an average 'stock'
figure of £0.5 million, then the stock turnover ratio would be:
This means that the business would turn its stock over (i.e. sell the lot and order some more) four
times per year, or every 91 days on average. However, care must be taken when comparing the
stock turnover ratios of different businesses, since a supermarket, for example, is likely to have a
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Dixons' (for televisions, washing machines, etc).
The debtor days ratio
This shows how long, on average, a business takes to collect the debts owed to it by customers who
have purchased their goods on credit. It is calculated using the following formula:
For example, if a business had debtors of £1.2m and a sales turnover of £9.1m, then the debtor
days figure would be:
This means that, on average, it takes the business 48 days to collect its trade debts.…read more