This ratio shows how many times sundry debtors (accounts receivable) turn over during the year. It is defined as:
Net credit sales / Average sundry debtors
If the figure for net credit sales is not available, one may have to make do with the net sales figure.
Horizon’s debtors’ turnover for 20X1 is:
701 ÷ [(114 + 68 / 2] = 7.70
Obviously, the higher the debtors’ turnover the greater the efficiency of credit management
Average Collection Period: the average collection period represents the number of days’ worth of credit sales that is locked in sundry debtors. It s defined as:
Average sundry debtors / Average daily credit sales
If the figure for credit sales is not available, one may have to make do with the net sales figure.
Horizon’s average collection period for 20X1 is:
[(114 ÷ 68) / 2] ÷ (701 / 365) = 47.4 days
Note that the average collection and the debtors’ turnover are related as follows:
Average collection period = 365 / Debtor’s turnover
The average collection period may be compared with the firm’s credit terms to judge the efficiency of credit management. For example, if the credit terms are 2 / 10, net 45, an average collection period of 85 days means that the collection is slow and an average collection period of 40 days means that the collection s prompt. An average collection period which is shorter than the credit period allowed by the firm needs to be interpreted carefully. It may mean efficiency of credit management or excessive conservatism in credit granting that may result in the loss of some desirable sales.
Fixed Assets Turnover: This ratio measures sales per rupee of investment in fixed assets. It is defined as:
Net sales / Average net fixed assets:
Horizon’s fixed assets turnover ratio for 20X1is:
701 ÷ [(330 + 322 / 2] = 2.15
This ratio is supposed to measure the efficiency with which fixed assets are employed – a high ratio indicates a high degree of efficiency in asset utilization and a low ratio reflects inefficient use of assets. However, interpreting this ratio, one caution should be borne in mind. When the fixed assets of the firm are old and substantially depreciated, the mixed assets turnover ratio tends to be high because the denominator of the ratio is very low.
Total Assets Turnover: Akin to the output capital ratio min economic analysis, the total assets turnover is defined as:
Net sales / Average total assets
Horizon’s total assets turnover ratio for 20X1 is:
701 ÷ [(474 + 412) / 2] = 1.58
This ratio measures how efficiently assets are employed, overall.
Profitability reflects the final result of business operations. There are two types of profitability ratios: profit margin ratios and arte of return ratios. Profit margin ratios show the relationship between profit and sales. Since profit can be measured at different stages, there are several measures of profit margin. The most popular profit margin ratios are: gross profit ratio and net profit margin ratio. Rate of return ratios reflect the relationship between profit and investment. The important rate of return measures are: return on capital employed and return on equity.
Gross Profit Margin ratio: The gross profit margin ratio is defined as:
Gross Profit / Net sales
Gross profit is defined as the difference between net sales and cost of goods sold. Horizon’s gross profit margin ratio for 20X1 is:
149 / 701 = 0.21 or 21 percent
This ratio shows the margin left after meeting manufacturing costs. It measures the efficiency of production as well as pricing. To analyze the factors underlying the variation in gross profit margin, the proportion of various elements of cost (labor, materials, and manufacturing overheads) to sales may be studied in detail.