What Is the Asset Turnover Ratio?

What Is the Asset Turnover Ratio?

Let me explain the asset turnover ratio directly to you: it measures how efficiently a company uses its assets to generate revenue by comparing total revenue to the value of its assets.

If the ratio is high, that means the company is doing a great job turning assets into sales. On the flip side, a low ratio shows the company isn't making the most of its assets to create revenue.

Key Takeaways

Here's what you need to know: asset turnover is simply the ratio of a company's total sales or revenue to its average assets. It tells investors how well the company is using those assets to drive sales. Remember, you can only use this ratio to compare companies in the same sector because what's considered good or bad varies a lot by industry.

Calculating the Asset Turnover Ratio

To calculate it, you take the company's total sales from the income statement as the numerator. For the denominator, use the average value of assets, which you get by adding the beginning-of-year and end-of-year assets from the balance sheet and dividing by two.

The formula is: Asset Turnover = Total Sales / ((Beginning Assets + Ending Assets) / 2), where Total Sales is the annual sales total, Beginning Assets are assets at the start of the year, and Ending Assets are assets at the end of the year.

What the Ratio Can Tell You

You typically calculate this on an annual basis. A higher ratio means the company is performing better because it's generating more revenue per dollar of assets.

Ratios vary by sector—retail and consumer staples often have high ratios due to small asset bases and high sales volume, while utilities and real estate have low ones because of their large asset bases.

Keep in mind, comparing ratios across different industries isn't useful; stick to companies in the same sector for meaningful insights.

Examples of the Asset Turnover Ratio

Take a look at these examples for FY 2024: Walmart had an asset turnover of 2.62, Target 1.88, AT&T 0.31, and Verizon 0.35.

AT&T and Verizon's low ratios are normal for telecommunications, where large asset bases mean slower turnover. Comparing Walmart to AT&T doesn't make sense due to different industries, but Verizon edges out AT&T in efficiency within their sector.

For Walmart, every dollar in assets generated $2.62 in sales, while Target's $1.88 might suggest slower sales or excess inventory issues.

DuPont Analysis

The asset turnover ratio is a core part of DuPont analysis, which DuPont developed in the 1920s to assess performance. It breaks down return on equity (ROE) into three parts: profit margin, asset turnover, and financial leverage.

The formula is: ROE = (Net Income / Revenue) × (Revenue / Average Assets) × (Average Assets / Average Equity).

Sometimes you might want to focus on fixed or current assets specifically, using ratios like fixed-asset turnover or working capital ratio to measure those efficiencies.

Asset Turnover vs. Fixed Asset Turnover

The standard asset turnover uses total average assets, but fixed asset turnover focuses only on fixed assets like property, plant, and equipment, net of depreciation.

A higher fixed asset turnover shows the company is better at generating sales from those investments.

What Is Asset Turnover Measuring?

This ratio measures how efficiently a company's assets generate revenue or sales, expressed as an annualized percentage by dividing net sales by average total assets. There's a variation that uses only fixed assets instead.

What Are Some Limitations of the Asset Turnover Ratio?

One limitation is that it doesn't give all the details for deep stock analysis, and a single year's ratio might not match trends from other years. You should look at the ratio over time to see if asset usage is getting better or worse.

What Is a Good Asset Turnover Value?

Good values depend on the industry—retail has high ratios from small assets and high sales, while utilities have low ones from large assets. Only compare within the same sector.

How Can a Company Improve Its Asset Turnover Ratio?

To boost a low ratio, a company can stock highly salable items, replenish inventory just in time, and increase operating hours to drive more sales. Just-in-time inventory, for example, means getting supplies right when needed, avoiding excess stock.

The Bottom Line

In summary, the asset turnover ratio compares revenues to assets to show how effectively a company generates revenue from minimal assets. It's most useful for comparing companies in the same industry.