What is Fixed asset turnover ratio?
As part of Financial Ratio Analysis, activity ratios help in understanding the efficiency with which a company utilizes its resources.
Similarly, an important activity ratio that measures the efficiency of the company in utilizing the assets as part of operations is – Fixed asset turnover ratio
Fixed asset turnover ratio meaning
The Fixed asset turnover ratio is an activity ratio that helps in understanding the efficiency of the company in generating the revenue from its fixed assets. It indicates if the company is utilizing the fixed assets more efficiently or not.
As the name suggests, the ratio calculates the amount of revenue generated from each dollar of Fixed assets employed by the company.
It tries to build a relationship between the Fixed asset and the Revenue that the company generates.
Fixed asset turnover ratio formula
The formula for the Fixed asset turnover ratio is similar to the Asset turnover ratio.
We take Net Sales in the numerator and Average Fixes assets 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.
Average Fixed assets 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.
Net Sales
- Net Sales refers 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 Fixed Assets
- Average of Fixed assets have to be considered and not mere closing total assets.
- Depreciation has to be reduced from Gross Block value. Hence, Net block value has to be considered and not Gross block value.
Let us understand the ratio with a hypothetical example.
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Fixed Asset turnover ratio example
Let us look at our 1st example.
We take Company A and Company B for calculating asset turnover 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 Fixed Assets
Let us Net sales for both the companies
Company A
- Sales = $ 2,000
- Sales return = $ 200
- Net sales = $1,800
Company B
- 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 Fixed 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
Company A
- Gross Fixed Assets =$3,000
- Less: Accumulated Depreciation = $1,000
- Net Fixed Assets =$2,000
Company B
- Gross Fixed Assets =$2,030
- Less: Accumulated Depreciation = $1,030
- Net Fixed Assets =$1,000
Now that we know all the values, let us calculate the turnover ratio for both the companies.
Fixed Asset turnover ratio = Net Sales / Average Fixed Assets
- Company A = $1,800/ $2,000 = 0.9 x
- Company B = $2,850/ $1,000 = 2.8 x
What this means is that Company A is not managing its Fixed Assets efficiently.
Hence, per each dollar of Fixed Asset, it is able to generate only $0.9 Revenue.
On the other hand, Company B is relatively more efficient since it is generating $2.8 per each dollar of Fixed Asset.
Hence, the Fixed Asset turnover ratio builds a relationship between the Fixed Asset base and the Revenue company derives from it.
Fixed Asset turnover ratio using Excel
In our next example, let us calculate the Fixed Asset turnover ratio using excel.
You can download the template for Walmart using the below option.
Below shown is the Consolidated Income Statement of Walmart.
Net Sales
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 return, if any.
Net Sales = $514,405
Now, take a look at Walmart’s consolidated Balance Sheet.
Let us calculate Average Fixed Assets for Walmart
- Fixed Assets 2018 = $114,818
- Total Assets 2019 = $111,395
- Average Fixed Assets = ($114,818 + $111,395)/2
- Average Fixed Assets = $113,106.5
Now that we have all the values, let us calculate asset turnover ratio for Walmart.
Fixed Asset turnover ratio = Net Sales / Average Fixed Assets
= $514,405 / $113,107 = 4.5 x
Hence, Fixed Asset turnover ratio for Walmart is 4.5 times
What this indicates is that the company is able to $4.5 on each dollar of Fixed Assets that the company has.
On a standalone basis, the ratio of 4.5 times may not give a clear picture unless we compare it with other companies in the same industry.
We need to perform trend analysis to see how the ratio has moved historically.
Fixed Asset turnover ratio interpretation
As we have already understood, the Fixed Asset turnover ratio indicates if the company is efficient using its Fixed Assets.
High Fixed Asset turnover ratio
- Generally, High Fixed Asset turnover ratio indicates that the company is more efficient since it generates more revenue from each dollar of Fixed Assets.
- It may also indicate that the companies have peaked out their capacity utilization.
- Hence, it may have to need to perform Capex to further expand the capacity.
Low Fixed Asset turnover ratio
- On the other hand, a lower turnover ratio indicates that the company is inefficient in managing its Fixed Assets.
- A lower ratio may also indicate that the Fixed Assets of the company are not yet operational.
- Companies with a lower Fixed Asset turnover ratio are often faced with lower capacity utilization.
- If the Fixed Assets are utilized more efficiently, these companies will have room for major improvement.
Trend Analysis
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 historically in the case of Facebook.
As evident from the chart above, the ratio for Facebook has been decreasing gradually for the past few years.
Although Facebook is not an asset-heavy company, its turnover ratio has fallen.
Currently, Facebook Fixed Asset turnover ratio is 2.9 times.
This means that with each dollar of Fixed Assets, the company is able to generate only $2.9.
Comparison with similar companies
To understand the industry dynamics, let us also look at how the asset turnover ratio for companies in different sectors is.
We look at companies in the retail sector and also a few prominent tech-based companies.
Walmart vs Home Depot
The ratio profile for companies in the retail sector is almost in the same range.
Being in the retail sector, companies like Walmart and Home Depot need to manage their Fixed Assets in the most efficient manner.
In the case of Home Depot – a home improvement retailer ( supplies tools, construction products, and various similar services), you can observe that the turnover ratio is increasing for the past 5 years.
Currently, Home Depot Fixed Asset turnover ratio is 4.8 times.
Similarly, the ratio is increasing in the case of Walmart as well. Currently, the ratio for Walmart is 4.5x.
Hence, the turnover ratio for both companies is in the range of 4 to 5 times.
Amazon
In the case of Amazon, the ratio has been falling since 2015. This shows some difficulty in managing the Fixed Assets efficiently.
Currently, Amazon Fixed asset turnover ratio is 4.2 times. This is similar to other companies like Home Depot or Walmart.
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 in lower single digits.
Apple
In the case of Apple, the ratio has been falling since 2014 which is not a good indication.
The company’s revenue is not increasing significantly while its Fixed Asset base is gradually increasing. Hence, the turnover ratio in the case of Apple has fallen from 11 times to 6 times in the past 5 years.
The ratio was as high as 11 times. But, currently, Apple Fixed Asset turnover ratio is 6.6 times.
As already discussed as part of Trend Analysis, the turnover ratio for Facebook is falling.
Although, not an asset-heavy company, yet Facebook is unable to manage its Fixed Asset base efficiently.
Currently, Facebook Fixed turnover ratio for is 2.9 times
Microsoft
Similar to Apple, even Microsoft company is unable to manage its Fixed Assets efficiently.
The turnover ratio for Microsoft is as low as 3.1 x. This was, back in 2014, as high as 6.3x.
Such a fall in the ratio is clear indication of inefficient management of Fixed Assets to generate Revenue.
In the case of Google, there has been no improvement in the ratio for the past 5 years. It is in the same range of 2.5 to 3 times.
Currently, Google Asset turnover ratio is mere 2.68 times.
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