Question: What is the total asset turnover ratio and how is it calculated?
The total asset turnover ratio measures the ability of a company to use its assets to efficiently generate sales. This ratio considers all assets, current and fixed. Those assets include fixed assets. like plant and equipment, as well as inventory. accounts receivable. as well as any other current assets.
Net Sales/Total Assets = # Times
Interpretation. The lower the total asset turnover ratio (the lower the # Times), as compared to historical data for the firm and industry data. the more sluggish the firm's sales. This may indicate a problem with one or more of the asset categories composing total assets - inventory, receivables, or fixed assets. The small business owner should analyze
the various asset classes to determine in which current or fixed asset the problem lies. The problem could be in more than one area of current or fixed assets.
Since current assets also include the liquidity ratios. such as the current and quick ratios. a problem with the total asset turnover ratio could also be traced back to these ratios.
Many business problems can be traced back to inventory but certainly not all. The firm could be holding obsolete inventory and not selling inventory fast enough. With regard to accounts receivable. the firm's collection period could be too long and credit accounts may be on the books too long. Fixed assets, such as plant and equipment, could be sitting idle instead of being used to their full capacity.