What is the Asset turnover ratio?
The total asset turnover ratio is yet another important activity ratio that measures the efficiency of the company in utilizing the assets as part of its operations.
Asset turnover ratio meaning
The asset turnover ratio tries to build a relationship between the company’s revenue and the company’s overall assets.
It indicates how much revenue is the company making from each dollar of assets.
This helps in determining if the company is asset-heavy or asset-light.
Asset turnover ratio formula
As seen in the image above the formula for the total asset turnover ratio is quite intuitive.
We take Net Sales in the numerator and Average total asset in the denominator.
Net Sales can be easily obtained from the company’s income statement.
It is nothing but the revenue company generates after reducing sales returns, if any.
The Average total asset can be calculated from the company’s balance sheet.
We take a simple average of total assets as at the current period-end and previous period-end.
Below aspects has to be kept in mind while calculating the numerator and denominator.
- Sales refer to normal revenue that the company generates from its core operation.
- Any unrelated income (such as interest income on deposits with banks) should not be included in the numerator.
- We need to consider both, cash sales and credit sales as part of the numerator.
- Any goods returned from the customers (Sales Return) have to be reduced.
- Hence, Net sales have to be considered.
- Sales value should not include any tax amount collected from customers.
- Hence, sales value should be net of any taxes
Average total assets
- Total assets should include both current and non-current assets.
- Further, an average of such total assets has to be considered and not mere closing total assets.
Let us understand the assets turnover ratio with a hypothetical example.
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Asset turnover ratio example
Let us look at our 1st example.
We take Company A and Company B for calculating the ratio.
Values given in the examples below are in $ millions.
Consider the below-given income statement for both the companies.
To calculate the ratio, we need
- Net Sales
- Average total assets
Let us calculate Net sales for both the companies
- Sales = $ 2,000
- Sales return = $ 200
- Net sales = $1,800
- Revenue = $3,000
- Sales return =$150
- Net sales = $2,850
Now, consider the below-given Balance Sheet for both the companies.
Let us calculate Average total assets for both the companies.
In the given example, we have total assets for only one period. Hence the same can be used as Average total assets
Average total assets
- Company A = $6,253
- Company B =$3,923
Now that we know all the values, let us calculate the ratio for both the companies.
Asset turnover ratio = Net Sales / Average total assets
- Company A = $1,800/ $6,253 = 0.28 x
- Company B = $2,850/ $3,923 = 0.72 x
Hence, the ratio for both companies is below 1 times.
What this means is that companies are not managing their overall assets efficiently.
They are unable to generate revenue which is at least equal to their asset base.
Nonetheless, Company B is relatively more efficient in utilizing its assets to generate revenue when compared to Company A.
Asset turnover ratio using excel
In our next example, let us calculate the turnover ratio for using excel.
Download the asset turnover ratio template using the below option.
Below shown is the Consolidated Income Statement of Walmart.
In the case of Walmart, Net Sales can be easily calculated from the income statement.
The Sales value given in the income statement is after reducing sales returns, if any.
Net Sales = $514,405
Now, take a look at Walmart’s consolidated Balance Sheet.
Let us calculate Average total assets for Walmart
- Total Assets 2018 = $204,522
- Total Assets 2019 = $219,295
- Average Total Assets = ($204,522 + $219,295)/2
- Average Total Assets = $ 211,909
Now that we have all the values, let us calculate the turnover ratio for Walmart.
Asset turnover ratio = Net sales / Average total assets
= ( $514,405 / $211,909 ) = 2.4 times.
As evident, Walmart asset turnover ratio is 2.5 times which is more than 1.
This indicates that the company is able to generate revenue which 2.4 times the value of overall assets.
Hence, efficient management of overall assets can be seen in the case of Walmart.
On a standalone basis, the asset turnover ratio of 2.4 times may not give a clear picture. Hence, we need to compare the ratio with other companies in the same industry.
We can even perform trend analysis to see how the ratio has moved historically.
Asset turnover ratio interpretation
- As we have already understood, the Asset turnover ratio indicates if the company is efficient in using its assets.
- Generally, a high asset turnover ratio indicates that the company is more efficient since it is able to generate more revenue with given assets.
- On the other hand, a lower asset turnover ratio indicates that the company is inefficient in managing its assets.
- At times evaluating companies solely through asset turnover ratio would be inappropriate.
- This is because the key revenue-driving factor would be something else like Human Capital, etc which are not appearing on the Balance Sheet.
To understand any financial ratios in-depth, trend analysis has to be performed.
Instead of analyzing the ratio on a standalone basis, one must look at how the ratio has moved historically.
This helps in understanding if the said ratio is sustainable in the near future.
Let’s look at how the ratio as moved in the case of Facebook, the social media giant.
As evident from the chart above, the asset turnover ratio for Facebook has increased drastically.
Facebook, as such is not an asset-heavy company. Nonetheless, it has almost doubled its ratio from 0.3 times to 0.6 times
This indicates the efficient utilization of the company’s assets while generating revenue.
Comparison with similar companies
To understand the industry dynamics, let us also look at how the asset turnover ratio is for companies in different sectors.
We look at companies in the retail sector and also a few prominent tech-based companies.
Walmart vs Home Depot
The asset turnover ratio for companies in the retail sector is almost similar.
Being in retail sector companies like Walmart and Home Depot need to manage their overall assets in the most efficient manner while generating their revenue.
In the case of Home Depot – a home improvement retailer ( supplies tools, construction products, and various similar services), you can observe that the asset turnover ratio is at a lower single digit.
Home Depot was able to increase its asset turnover ratio moderately from 1.9x to almost 2.5x.
On the contrary, Walmart asset turnover ratio has been steady at around 2.4 times.
This indicates that the effort taken by the company to manage its assets are not yielding any benefits.
When you look at Amazon, the turnover ratio has been quite volatile.
Back in 2014, it was as low as 1.6x and gradually it increased to 1.8 times. But, again it started falling back to the earlier levels.
The company’s revenues are increasing significantly. At the same time, the company’s overall asset base is also increasing.
For the year ending 31 December 2019, Amazon asset turnover ratio is 1.58 times.
Facebook vs Google vs Microsoft
When you calculate the ratio for tech-based companies like Apple, Facebook, Google (Alphabet) and Microsoft, you will observe that the ratios are very low.
In the case of Apple, ATR is at around 0.7 times to 0.8 times.
There has been no increase in the ratio for the past 5 years. Also, the ratio has been quite volatile.
This indicates that the company is not very efficient in managing its overall assets while generating revenue.
For the year ending 28 September 2019, Apple asset turnover ratio is 0.74 times.
All the tech-based companies’ asset turnover ratio is in decimals. This is applicable even in the case of Facebook.
As already seen as part of trend analysis, Facebook has doubled its ATR in the past 5 years.
This shows the most efficient management of assets by Facebook management.
For the year ending 31 December 2019, the Facebook asset turnover ratio is 0.61 times
Similar to Apple, even Microsoft company is unable to increase its turnover ratio.
For the year ending 30 June 2019, the Microsoft asset turnover ratio is as low as 0.45 times.
Although the company’s revenues are increasing, it is not able to manage its assets in a more efficient manner such that ATR could increase.
In the case of Google, there is a moderate increase in ATR.
The company was able to manage its assets efficiently and increase the ratio from 0.5x to 0.6x.
Although not a significant improvement as such, efforts of the Company to manage its assets more efficiently are clearly visible.
For the year ending 31 December 2019, Google asset turnover ratio is 0.64 times.
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