{"id":3426,"date":"2015-06-23T13:51:19","date_gmt":"2015-06-23T13:51:19","guid":{"rendered":"https:\/\/courses.candelalearning.com\/masterybusiness1xngcxmaster\/?post_type=chapter&#038;p=3426"},"modified":"2015-10-06T14:39:12","modified_gmt":"2015-10-06T14:39:12","slug":"financial-ratio-analysis","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/wmintrobusinessx51xmaster\/chapter\/financial-ratio-analysis\/","title":{"raw":"Reading: Financial Ratio Analysis","rendered":"Reading: Financial Ratio Analysis"},"content":{"raw":"<div id=\"post-262\" class=\"type-1 post-262 chapter type-chapter status-publish hentry\">\r\n<div class=\"entry-content\">\r\n<h2>Financial Ratio Analysis<\/h2>\r\nLogical relationships exist between certain accounts or items in a company\u2019s financial statements. These accounts may appear on the same statement or on two different statements. We set up the dollar amounts of the related accounts or items in fraction form called ratios.\u00a0These ratios include the following:\r\n<ul>\r\n\t<li><b><strong>Liquidity ratios<\/strong><\/b> indicate a company\u2019s short-term debt-paying ability. These ratios include (1) current, or working capital, ratio; (2) acid-test (quick) ratio; (3) cash flow liquidity ratio; (4) accounts receivable turnover; (5) number of days\u2019 sales in accounts receivable; (6) inventory turnover; and (7) total assets turnover.<\/li>\r\n\t<li><b><strong>Equity, or long-term solvency, ratios<\/strong><\/b> show the relationship between debt and equity financing in a company. These ratios include (1) equity (stockholders\u2019 equity) ratio and (2) stockholders\u2019 equity to debt ratio.<\/li>\r\n\t<li><b><strong>Profitability tests<\/strong><\/b> are an important measure of a company\u2019s operating success. These tests include (1) rate of return on operating assets, (2) net income to net sales, (3) net income to average common stockholders\u2019 equity, (4) cash flow margin, (5) earnings per share of common stock, (6) times interest earned ratio, and (7) times preferred dividends earned ratio.<\/li>\r\n\t<li><b><strong>Market tests<\/strong><\/b> help investors and potential investors assess the relative merits of the various stocks in the marketplace. These tests include (1) earnings yield on common stock, (2) price-earnings ratio, (3) dividend yield on common stock, (4) payout ratio on common stock, (5) dividend yield on preferred stock, and (6) cash flow per share of common stock.<\/li>\r\n<\/ul>\r\n<em>Many of these ratios are beyond the scope of this course; however, we will look at several\u00a0ratios\u00a0that are key to\u00a0evaluating any business.\u00a0<\/em>\r\n<h2>Current (or Working Capital) Ratio<\/h2>\r\nWorking capital is the excess of current assets over current liabilities. The ratio that relates current assets to current liabilities is the <b><strong>current (or working capital) ratio<\/strong><\/b>. The current ratio indicates the ability of a company to pay its current liabilities from current assets and, thus, shows the strength of the company\u2019s working capital position.\r\n\r\nYou can compute the current ratio by dividing current assets by current liabilities, as follows:\r\n\r\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.46.09-AM.png\"><img class=\"aligncenter wp-image-369 size-medium\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.46.09-AM-300x61.png\" alt=\"Current ratio is equal to the current assets divided by the current liabilities.\" width=\"300\" height=\"61\" \/><\/a>\r\n\r\nThe ratio is usually stated as a number of dollars of current assets to one dollar of current liabilities (although the dollar signs usually are omitted). Thus, for Synotech in 2010, when current assets totaled USD 2,846.7 million and current liabilities totaled USD 2,285.2 million, the ratio is 1.25:1, meaning that the company has USD 1.25 of current assets for each USD 1.00 of current liabilities.\r\n\r\nThe current ratio provides a better index of a company\u2019s ability to pay current debts than does the absolute amount of working capital. To illustrate, assume that we are comparing Synotech to Company B. For this example, use the following totals for current assets and current liabilities:\r\n<table>\r\n<tbody>\r\n<tr>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<td><b><strong>Synotech<\/strong><\/b><\/td>\r\n<td><b><strong>Company B<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Current assets (a)<\/td>\r\n<td>$ 2,846.7<\/td>\r\n<td>$120.0<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Current liabilities (b)<\/td>\r\n<td>2,285.2<\/td>\r\n<td>53.2<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Working capital (a \u2013 b)<\/td>\r\n<td>$ 561.5<\/td>\r\n<td>$ 66.8<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Current ratio (a\/b)<\/td>\r\n<td>1.25:1<\/td>\r\n<td>2.26:1<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nSynotech has eight times as much working capital as Company B. However, Company B has a superior debt-paying ability since it has USD 2.26 of current assets for each USD 1.00 of current liabilities.\r\n\r\nShort-term creditors are particularly interested in the current ratio since the conversion of inventories and accounts receivable into cash is the primary source from which the company obtains the cash to pay short-term creditors. Long-term creditors are also interested in the current ratio because a company that is unable to pay short-term debts may be forced into bankruptcy. For this reason, many bond indentures, or contracts, contain a provision requiring that the borrower maintain at least a certain minimum current ratio. A company can increase its current ratio by issuing long-term debt or capital stock or by selling noncurrent assets.\r\n\r\nA company must guard against a current ratio that is too high, especially if caused by idle cash, slow-paying customers, and\/or slow-moving inventory. Decreased net income can result when too much capital that could be used profitably elsewhere is tied up in current assets.\r\n<h2>Acid-Test (Quick) Ratio<\/h2>\r\nThe current ratio is not the only measure of a company\u2019s short-term debt-paying ability. Another measure, called the<b><strong> acid-test (quick) ratio<\/strong><\/b>, is the ratio of quick assets (cash, marketable securities, and net receivables) to current liabilities. Analysts exclude inventories and prepaid expenses from current assets to compute quick assets because they might not be readily convertible into cash. The formula for the acid-test ratio is the following:\r\n\r\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.48.01-AM.png\"><img class=\"aligncenter wp-image-370 size-medium\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.48.01-AM-300x49.png\" alt=\"Acid minus the test ratio is equal to the quick assets divided by the current liabilities.\" width=\"300\" height=\"49\" \/><\/a>\r\n\r\nShort-term creditors are particularly interested in this ratio, which relates the pool of cash and immediate cash inflows to immediate cash outflows.\r\n\r\nThe acid-test ratios for 2010 and 2009 for Synotech follow:\r\n<table>\r\n<tbody>\r\n<tr>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<td><b><strong>December<\/strong><\/b><\/td>\r\n<td><b><strong>31<\/strong><\/b><\/td>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td><b><strong>(USD millions)<\/strong><\/b><\/td>\r\n<td><b><strong>2010<\/strong><\/b><\/td>\r\n<td><b><strong>2009<\/strong><\/b><\/td>\r\n<td><b><strong>Amount of increase or (decrease)<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Quick assets (a)<\/td>\r\n<td>$1,646.6<\/td>\r\n<td>$1,648.3<\/td>\r\n<td>$ (1.7)<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Current liabilities (b)<\/td>\r\n<td>2,285.6<\/td>\r\n<td>2,103.8<\/td>\r\n<td>181.8<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Net quick assets (a \u2013 b)<\/td>\r\n<td>$ (639.0)<\/td>\r\n<td>$ (455.5)<\/td>\r\n<td>$(183.5)<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Acid-test ratio (a\/b)<\/td>\r\n<td>.72:1<\/td>\r\n<td>.78:1<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nIn deciding whether the acid-test ratio is satisfactory, investors consider the quality of the marketable securities and receivables. An accumulation of poor-quality marketable securities or receivables, or both, could cause an acid-test ratio to appear deceptively favorable. When referring to marketable securities, poor quality means securities likely to generate losses when sold. Poor-quality receivables may be uncollectible or not collectible until long past due. The quality of receivables depends primarily on their age, which can be assessed by preparing an aging schedule or by calculating the accounts receivable turnover.\r\n<h2>Inventory Turnover<\/h2>\r\nA company\u2019s inventory turnover ratio shows the number of times its average inventory is sold during a period. You can calculate<b><strong> inventory turnover<\/strong><\/b> as follows:\r\n\r\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-12.07.33-PM.png\"><img class=\"aligncenter size-full wp-image-375\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-12.07.33-PM.png\" alt=\"The inventory turnover is equal to the cost of goods sold divided by the average inventory.\" width=\"368\" height=\"58\" \/><\/a>\r\n\r\nWhen comparing an income statement item and a balance sheet item, measure both in comparable dollars. Notice that we measure the numerator and denominator in <em>cost<\/em> rather than sales dollars. \u00a0Inventory turnover relates a measure of sales volume to the average amount of goods on hand to produce this sales volume.\r\n\r\nSynotech\u2019s inventory on 2009 January 1, was USD 856.7 million. The following schedule shows that the inventory turnover decreased slightly from 5.85 times per year in 2009 to 5.76 times per year in 2010. To convert these turnover ratios to the number of days it takes the company to sell its entire stock of inventory, divide 365 by the inventory turnover. Synotech\u2019s average inventory sold in about 63 and 62 (365\/5.76 and 365\/5.85) in 2010 and 2009, respectively.\r\n<table>\r\n<tbody>\r\n<tr>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<td><b><strong>December<\/strong><\/b><\/td>\r\n<td><b><strong>31<\/strong><\/b><\/td>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td><b><strong>(USD millions)<\/strong><\/b><\/td>\r\n<td><b><strong>2010<\/strong><\/b><\/td>\r\n<td><b><strong>2009<\/strong><\/b><\/td>\r\n<td><b><strong>Amount of increase or (decrease)<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Cost of goods sold (a)<\/td>\r\n<td>$5,341.3<\/td>\r\n<td>$5,223.7<\/td>\r\n<td>$117.6<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Merchandise inventory:<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>\u00a0 January 1<\/td>\r\n<td>$929.8<\/td>\r\n<td>$856.7<\/td>\r\n<td>$ 73.1<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>\u00a0 December 31<\/td>\r\n<td>924.8<\/td>\r\n<td>929.8<\/td>\r\n<td>(5.0)<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>\u00a0\u00a0\u00a0 Total (b)<\/td>\r\n<td>$1,854.6<\/td>\r\n<td>$1,786.5<\/td>\r\n<td>$ 68.1<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Average inventory (c) (b\/2 = c)<\/td>\r\n<td>$927.3<\/td>\r\n<td>$893.3<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Turnover of inventory (a\/c)<\/td>\r\n<td>5.76<\/td>\r\n<td>5.85<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nOther things being equal, a manager who maintains the <em>highest<\/em> inventory turnover ratio is the most efficient. Yet, other things are not always equal. For example, a company that achieves a high inventory turnover ratio by keeping extremely small inventories on hand may incur larger ordering costs, lose quantity discounts, and lose sales due to lack of adequate inventory. In attempting to earn satisfactory income, management must balance the costs of inventory storage and obsolescence and the cost of tying up funds in inventory against possible losses of sales and other costs associated with keeping too little inventory on hand.\r\n\r\nStanding alone, a single financial ratio may not be informative. Investors gain greater insight by computing and analyzing several related ratios for a company. \u00a0Financial analysis relies heavily on informed judgment. As guides to aid comparison, percentages and ratios are useful in uncovering potential strengths and weaknesses. However, the financial analyst should seek the basic causes behind changes and established trends.\r\n<div><\/div>\r\n<table><caption>Exhibit 1: Summary of ratios<\/caption>\r\n<tbody>\r\n<tr>\r\n<td><b><strong>Liquidity ratios<\/strong><\/b><\/td>\r\n<td><b><strong>Formula<\/strong><\/b><\/td>\r\n<td><b><strong>Significance<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Current, or working capital, ratio<\/td>\r\n<td>Current assets \/ Current liabilities<\/td>\r\n<td>Test of debt-paying ability<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Acid-test (quick) ratio<\/td>\r\n<td>Quick assets (cash + marketable securities + net receivables) \/ Current liabilities<\/td>\r\n<td>Test of immediate debt-paying ability<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Inventory turnover<\/td>\r\n<td>Cost of goods sold \/ Average inventory<\/td>\r\n<td>Test of whether or not a sufficient volume of business is being generated relative to inventory<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\n<h2>Interpretation and Use of Ratios<\/h2>\r\nAnalysts must be sure that their comparisons are valid\u2014especially when the comparisons are of items for different periods or different companies. They must follow consistent accounting practices if valid interperiod comparisons are to be made. Comparable intercompany comparisons are more difficult to secure. Accountants cannot do much more than disclose the fact that one company is using FIFO and another is using LIFO for inventory and cost of goods sold computations. Such a disclosure alerts analysts that intercompany comparisons of inventory turnover ratios, for example, may not be comparable.\r\n\r\nAlso, when comparing a company\u2019s ratios to industry averages provided by an external source such as Dun &amp; Bradstreet, the analyst should calculate the company\u2019s ratios in the same manner as the reporting service. Thus, if Dun &amp; Bradstreet uses net sales (rather than cost of goods sold) to compute inventory turnover, so should the analyst. Net sales is sometimes preferable because all companies do not compute and report cost of goods sold amounts in the same manner.\r\n\r\nFacts and conditions not disclosed by the financial statements may, however, affect their interpretation. A single important event may have been largely responsible for a given relationship. For example, competitors may put a new product on the market, making it necessary for the company under study to reduce the selling price of a product suddenly rendered obsolete. Such an event would severely affect the percentage of gross margin to net sales. Yet there may be little chance that such an event will happen again.\r\n\r\nAnalysts must consider general business conditions within the industry of the company under study. A corporation\u2019s downward trend in earnings, for example, is less alarming if the industry trend or the general economic trend is also downward.\r\n\r\nInvestors also need to consider the seasonal nature of some businesses. If the balance sheet date represents the seasonal peak in the volume of business, for example, the ratio of current assets to current liabilities may be much lower than if the balance sheet date is in a season of low activity.\r\n\r\nPotential investors should consider the market risk associated with the prospective investment. They can determine market risk by comparing the changes in the price of a stock in relation to the changes in the average price of all stocks.\r\n\r\nPotential investors should realize that acquiring the ability to make informed judgments is a long process and does not occur overnight. Using ratios and percentages without considering the underlying causes may lead to incorrect conclusions.\r\n\r\nEven within an industry, variations may exist. Acceptable current ratios, gross margin percentages, debt to equity ratios, and other relationships vary widely depending on unique conditions within an industry. Therefore, it is important to know the industry to make comparisons that have real meaning.\r\n<h3>Demonstration Problem<\/h3>\r\nThe balance sheet and supplementary data for Xerox Corporation follow:\r\n\r\n<b><strong>Xerox Corporation<\/strong><\/b>\r\n\r\n<b><strong>Balance sheet with IOFS on an equity basis<\/strong><\/b>\r\n\r\n<b><strong>20XX December 31<\/strong><\/b>\r\n\r\n<b><strong>(USD millions)<\/strong><\/b>\r\n<table>\r\n<tbody>\r\n<tr>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<td><b><strong>20XX<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td><b><strong>Assets<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Cash<\/td>\r\n<td>$ 1,741<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Accounts receivable, net<\/td>\r\n<td>2,281<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Finance receivables, net<\/td>\r\n<td>5,097<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Inventories<\/td>\r\n<td>1,932<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Deferred taxes and other current assets<\/td>\r\n<td>1,971<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Total current assets<\/td>\r\n<td>$ 13,022<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Finance receivables due after one year, net<\/td>\r\n<td>7,957<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Land, buildings, and equipment, net<\/td>\r\n<td>2,495<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Investments in affiliates, at equity<\/td>\r\n<td>1,362<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Goodwill<\/td>\r\n<td>1,578<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Other assets<\/td>\r\n<td>3,061<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Total assets<\/td>\r\n<td>$ 29,475<\/td>\r\n<\/tr>\r\n<tr>\r\n<td><b><strong>Liabilities and stockholders\u2019 equity<\/strong><\/b><\/td>\r\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Short-term debt and current portion of long-term debt<\/td>\r\n<td>$ 2,693<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Accounts payable<\/td>\r\n<td>1,033<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Accrued compensation and benefit costs<\/td>\r\n<td>662<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Unearned income<\/td>\r\n<td>250<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Other current liabilities<\/td>\r\n<td>1,630<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Total current liabilities<\/td>\r\n<td>$ 6,268<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Long-term debt<\/td>\r\n<td>15,404<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Liabilities for post-retirement medical benefits<\/td>\r\n<td>1,197<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Deferred taxes and other liabilities<\/td>\r\n<td>1,876<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Discontinued policyholders\u2019 deposits and other operations liabilities<\/td>\r\n<td>670<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Deferred ESOP benefits<\/td>\r\n<td>(221)<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Minorities\u2019 interests in equity of subsidiaries<\/td>\r\n<td>141<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Preferred stock<\/td>\r\n<td>647<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Common shareholders\u2019 equity (108.1 million)<\/td>\r\n<td>3,493<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Total liabilities and shareholders\u2019 equity<\/td>\r\n<td>$ 29,475<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\n<ul>\r\n\t<li>Cost of goods sold, USD 6,197.<\/li>\r\n\t<li>Net sales, USD 18,701.<\/li>\r\n\t<li>Inventory, January 1, USD 2,290.<\/li>\r\n\t<li>Net interest expense, USD 1,031.<\/li>\r\n\t<li>Net income before interest and taxes, USD 647.<\/li>\r\n\t<li>Net accounts receivable on January 1, USD 2,633.<\/li>\r\n\t<li>Total assets on January 1, USD 28,531.<\/li>\r\n<\/ul>\r\nCompute the following ratios:\r\n<ol>\r\n\t<li>Current ratio.<\/li>\r\n\t<li>Acid-test ratio.<\/li>\r\n\t<li>Inventory turnover.<\/li>\r\n<\/ol>\r\n<h3>Solution to Demonstration Problem<\/h3>\r\n<ol>\r\n\t<li>Current ratio:\r\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.48.06-PM.png\"><img class=\"alignnone wp-image-409 size-full\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.48.06-PM.png\" alt=\"Current assets is divided by current liabilities is equal to 13,022,000,000 US dollars divided by 6,268,000,000 US dollars is equal to 2.08 to 1.\" width=\"473\" height=\"69\" \/><\/a><\/li>\r\n\t<li>Acid-test ratio:\r\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.51.47-PM.png\"><img class=\"alignnone size-full wp-image-410\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.51.47-PM.png\" alt=\"Quick assets divided by current liabilities is equal to 9,119,000,000 US dollars divided by 6,268,000,000 US dollars is equal to 1.45 to 1.\" width=\"461\" height=\"67\" \/><\/a><\/li>\r\n\t<li>Inventory\u00a0turnover:\r\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.53.21-PM.png\"><img class=\"alignnone size-full wp-image-411\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.53.21-PM.png\" alt=\"Net sales divided by average net accounts receivable is equal to 18,701,000,000 US dollars divided by 2,457,000,000 US dollars is equal to 7.61 time.\" width=\"620\" height=\"68\" \/><\/a><\/li>\r\n<\/ol>\r\n<\/div>\r\n<\/div>\r\n&nbsp;\r\n\r\n&nbsp;\r\n<h2>Check Your Understanding<\/h2>\r\nAnswer the question(s) below to see how well you understand the topics covered in this section. This short quiz does <strong>not<\/strong> count toward your grade in the class, and you can retake it an unlimited number of times.\r\n\r\nUse this quiz to check your understanding and decide whether to (1) study the previous section further or (2) move on to the next section.\r\n\r\nhttps:\/\/assessments.lumenlearning.com\/assessments\/242\r\n<div id=\"post-262\" class=\"type-1 post-262 chapter type-chapter status-publish hentry\">\r\n<div class=\"entry-content\">\r\n<div class=\"footnotes\"><\/div>\r\n<\/div>\r\n<\/div>","rendered":"<div id=\"post-262\" class=\"type-1 post-262 chapter type-chapter status-publish hentry\">\n<div class=\"entry-content\">\n<h2>Financial Ratio Analysis<\/h2>\n<p>Logical relationships exist between certain accounts or items in a company\u2019s financial statements. These accounts may appear on the same statement or on two different statements. We set up the dollar amounts of the related accounts or items in fraction form called ratios.\u00a0These ratios include the following:<\/p>\n<ul>\n<li><b><strong>Liquidity ratios<\/strong><\/b> indicate a company\u2019s short-term debt-paying ability. These ratios include (1) current, or working capital, ratio; (2) acid-test (quick) ratio; (3) cash flow liquidity ratio; (4) accounts receivable turnover; (5) number of days\u2019 sales in accounts receivable; (6) inventory turnover; and (7) total assets turnover.<\/li>\n<li><b><strong>Equity, or long-term solvency, ratios<\/strong><\/b> show the relationship between debt and equity financing in a company. These ratios include (1) equity (stockholders\u2019 equity) ratio and (2) stockholders\u2019 equity to debt ratio.<\/li>\n<li><b><strong>Profitability tests<\/strong><\/b> are an important measure of a company\u2019s operating success. These tests include (1) rate of return on operating assets, (2) net income to net sales, (3) net income to average common stockholders\u2019 equity, (4) cash flow margin, (5) earnings per share of common stock, (6) times interest earned ratio, and (7) times preferred dividends earned ratio.<\/li>\n<li><b><strong>Market tests<\/strong><\/b> help investors and potential investors assess the relative merits of the various stocks in the marketplace. These tests include (1) earnings yield on common stock, (2) price-earnings ratio, (3) dividend yield on common stock, (4) payout ratio on common stock, (5) dividend yield on preferred stock, and (6) cash flow per share of common stock.<\/li>\n<\/ul>\n<p><em>Many of these ratios are beyond the scope of this course; however, we will look at several\u00a0ratios\u00a0that are key to\u00a0evaluating any business.\u00a0<\/em><\/p>\n<h2>Current (or Working Capital) Ratio<\/h2>\n<p>Working capital is the excess of current assets over current liabilities. The ratio that relates current assets to current liabilities is the <b><strong>current (or working capital) ratio<\/strong><\/b>. The current ratio indicates the ability of a company to pay its current liabilities from current assets and, thus, shows the strength of the company\u2019s working capital position.<\/p>\n<p>You can compute the current ratio by dividing current assets by current liabilities, as follows:<\/p>\n<p><a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.46.09-AM.png\"><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter wp-image-369 size-medium\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.46.09-AM-300x61.png\" alt=\"Current ratio is equal to the current assets divided by the current liabilities.\" width=\"300\" height=\"61\" \/><\/a><\/p>\n<p>The ratio is usually stated as a number of dollars of current assets to one dollar of current liabilities (although the dollar signs usually are omitted). Thus, for Synotech in 2010, when current assets totaled USD 2,846.7 million and current liabilities totaled USD 2,285.2 million, the ratio is 1.25:1, meaning that the company has USD 1.25 of current assets for each USD 1.00 of current liabilities.<\/p>\n<p>The current ratio provides a better index of a company\u2019s ability to pay current debts than does the absolute amount of working capital. To illustrate, assume that we are comparing Synotech to Company B. For this example, use the following totals for current assets and current liabilities:<\/p>\n<table>\n<tbody>\n<tr>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<td><b><strong>Synotech<\/strong><\/b><\/td>\n<td><b><strong>Company B<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td>Current assets (a)<\/td>\n<td>$ 2,846.7<\/td>\n<td>$120.0<\/td>\n<\/tr>\n<tr>\n<td>Current liabilities (b)<\/td>\n<td>2,285.2<\/td>\n<td>53.2<\/td>\n<\/tr>\n<tr>\n<td>Working capital (a \u2013 b)<\/td>\n<td>$ 561.5<\/td>\n<td>$ 66.8<\/td>\n<\/tr>\n<tr>\n<td>Current ratio (a\/b)<\/td>\n<td>1.25:1<\/td>\n<td>2.26:1<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<p>Synotech has eight times as much working capital as Company B. However, Company B has a superior debt-paying ability since it has USD 2.26 of current assets for each USD 1.00 of current liabilities.<\/p>\n<p>Short-term creditors are particularly interested in the current ratio since the conversion of inventories and accounts receivable into cash is the primary source from which the company obtains the cash to pay short-term creditors. Long-term creditors are also interested in the current ratio because a company that is unable to pay short-term debts may be forced into bankruptcy. For this reason, many bond indentures, or contracts, contain a provision requiring that the borrower maintain at least a certain minimum current ratio. A company can increase its current ratio by issuing long-term debt or capital stock or by selling noncurrent assets.<\/p>\n<p>A company must guard against a current ratio that is too high, especially if caused by idle cash, slow-paying customers, and\/or slow-moving inventory. Decreased net income can result when too much capital that could be used profitably elsewhere is tied up in current assets.<\/p>\n<h2>Acid-Test (Quick) Ratio<\/h2>\n<p>The current ratio is not the only measure of a company\u2019s short-term debt-paying ability. Another measure, called the<b><strong> acid-test (quick) ratio<\/strong><\/b>, is the ratio of quick assets (cash, marketable securities, and net receivables) to current liabilities. Analysts exclude inventories and prepaid expenses from current assets to compute quick assets because they might not be readily convertible into cash. The formula for the acid-test ratio is the following:<\/p>\n<p><a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.48.01-AM.png\"><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter wp-image-370 size-medium\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-11.48.01-AM-300x49.png\" alt=\"Acid minus the test ratio is equal to the quick assets divided by the current liabilities.\" width=\"300\" height=\"49\" \/><\/a><\/p>\n<p>Short-term creditors are particularly interested in this ratio, which relates the pool of cash and immediate cash inflows to immediate cash outflows.<\/p>\n<p>The acid-test ratios for 2010 and 2009 for Synotech follow:<\/p>\n<table>\n<tbody>\n<tr>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<td><b><strong>December<\/strong><\/b><\/td>\n<td><b><strong>31<\/strong><\/b><\/td>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td><b><strong>(USD millions)<\/strong><\/b><\/td>\n<td><b><strong>2010<\/strong><\/b><\/td>\n<td><b><strong>2009<\/strong><\/b><\/td>\n<td><b><strong>Amount of increase or (decrease)<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td>Quick assets (a)<\/td>\n<td>$1,646.6<\/td>\n<td>$1,648.3<\/td>\n<td>$ (1.7)<\/td>\n<\/tr>\n<tr>\n<td>Current liabilities (b)<\/td>\n<td>2,285.6<\/td>\n<td>2,103.8<\/td>\n<td>181.8<\/td>\n<\/tr>\n<tr>\n<td>Net quick assets (a \u2013 b)<\/td>\n<td>$ (639.0)<\/td>\n<td>$ (455.5)<\/td>\n<td>$(183.5)<\/td>\n<\/tr>\n<tr>\n<td>Acid-test ratio (a\/b)<\/td>\n<td>.72:1<\/td>\n<td>.78:1<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<p>In deciding whether the acid-test ratio is satisfactory, investors consider the quality of the marketable securities and receivables. An accumulation of poor-quality marketable securities or receivables, or both, could cause an acid-test ratio to appear deceptively favorable. When referring to marketable securities, poor quality means securities likely to generate losses when sold. Poor-quality receivables may be uncollectible or not collectible until long past due. The quality of receivables depends primarily on their age, which can be assessed by preparing an aging schedule or by calculating the accounts receivable turnover.<\/p>\n<h2>Inventory Turnover<\/h2>\n<p>A company\u2019s inventory turnover ratio shows the number of times its average inventory is sold during a period. You can calculate<b><strong> inventory turnover<\/strong><\/b> as follows:<\/p>\n<p><a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-12.07.33-PM.png\"><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter size-full wp-image-375\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-11-at-12.07.33-PM.png\" alt=\"The inventory turnover is equal to the cost of goods sold divided by the average inventory.\" width=\"368\" height=\"58\" \/><\/a><\/p>\n<p>When comparing an income statement item and a balance sheet item, measure both in comparable dollars. Notice that we measure the numerator and denominator in <em>cost<\/em> rather than sales dollars. \u00a0Inventory turnover relates a measure of sales volume to the average amount of goods on hand to produce this sales volume.<\/p>\n<p>Synotech\u2019s inventory on 2009 January 1, was USD 856.7 million. The following schedule shows that the inventory turnover decreased slightly from 5.85 times per year in 2009 to 5.76 times per year in 2010. To convert these turnover ratios to the number of days it takes the company to sell its entire stock of inventory, divide 365 by the inventory turnover. Synotech\u2019s average inventory sold in about 63 and 62 (365\/5.76 and 365\/5.85) in 2010 and 2009, respectively.<\/p>\n<table>\n<tbody>\n<tr>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<td><b><strong>December<\/strong><\/b><\/td>\n<td><b><strong>31<\/strong><\/b><\/td>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td><b><strong>(USD millions)<\/strong><\/b><\/td>\n<td><b><strong>2010<\/strong><\/b><\/td>\n<td><b><strong>2009<\/strong><\/b><\/td>\n<td><b><strong>Amount of increase or (decrease)<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td>Cost of goods sold (a)<\/td>\n<td>$5,341.3<\/td>\n<td>$5,223.7<\/td>\n<td>$117.6<\/td>\n<\/tr>\n<tr>\n<td>Merchandise inventory:<\/td>\n<\/tr>\n<tr>\n<td>\u00a0 January 1<\/td>\n<td>$929.8<\/td>\n<td>$856.7<\/td>\n<td>$ 73.1<\/td>\n<\/tr>\n<tr>\n<td>\u00a0 December 31<\/td>\n<td>924.8<\/td>\n<td>929.8<\/td>\n<td>(5.0)<\/td>\n<\/tr>\n<tr>\n<td>\u00a0\u00a0\u00a0 Total (b)<\/td>\n<td>$1,854.6<\/td>\n<td>$1,786.5<\/td>\n<td>$ 68.1<\/td>\n<\/tr>\n<tr>\n<td>Average inventory (c) (b\/2 = c)<\/td>\n<td>$927.3<\/td>\n<td>$893.3<\/td>\n<\/tr>\n<tr>\n<td>Turnover of inventory (a\/c)<\/td>\n<td>5.76<\/td>\n<td>5.85<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<p>Other things being equal, a manager who maintains the <em>highest<\/em> inventory turnover ratio is the most efficient. Yet, other things are not always equal. For example, a company that achieves a high inventory turnover ratio by keeping extremely small inventories on hand may incur larger ordering costs, lose quantity discounts, and lose sales due to lack of adequate inventory. In attempting to earn satisfactory income, management must balance the costs of inventory storage and obsolescence and the cost of tying up funds in inventory against possible losses of sales and other costs associated with keeping too little inventory on hand.<\/p>\n<p>Standing alone, a single financial ratio may not be informative. Investors gain greater insight by computing and analyzing several related ratios for a company. \u00a0Financial analysis relies heavily on informed judgment. As guides to aid comparison, percentages and ratios are useful in uncovering potential strengths and weaknesses. However, the financial analyst should seek the basic causes behind changes and established trends.<\/p>\n<div><\/div>\n<table>\n<caption>Exhibit 1: Summary of ratios<\/caption>\n<tbody>\n<tr>\n<td><b><strong>Liquidity ratios<\/strong><\/b><\/td>\n<td><b><strong>Formula<\/strong><\/b><\/td>\n<td><b><strong>Significance<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td>Current, or working capital, ratio<\/td>\n<td>Current assets \/ Current liabilities<\/td>\n<td>Test of debt-paying ability<\/td>\n<\/tr>\n<tr>\n<td>Acid-test (quick) ratio<\/td>\n<td>Quick assets (cash + marketable securities + net receivables) \/ Current liabilities<\/td>\n<td>Test of immediate debt-paying ability<\/td>\n<\/tr>\n<tr>\n<td>Inventory turnover<\/td>\n<td>Cost of goods sold \/ Average inventory<\/td>\n<td>Test of whether or not a sufficient volume of business is being generated relative to inventory<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<h2>Interpretation and Use of Ratios<\/h2>\n<p>Analysts must be sure that their comparisons are valid\u2014especially when the comparisons are of items for different periods or different companies. They must follow consistent accounting practices if valid interperiod comparisons are to be made. Comparable intercompany comparisons are more difficult to secure. Accountants cannot do much more than disclose the fact that one company is using FIFO and another is using LIFO for inventory and cost of goods sold computations. Such a disclosure alerts analysts that intercompany comparisons of inventory turnover ratios, for example, may not be comparable.<\/p>\n<p>Also, when comparing a company\u2019s ratios to industry averages provided by an external source such as Dun &amp; Bradstreet, the analyst should calculate the company\u2019s ratios in the same manner as the reporting service. Thus, if Dun &amp; Bradstreet uses net sales (rather than cost of goods sold) to compute inventory turnover, so should the analyst. Net sales is sometimes preferable because all companies do not compute and report cost of goods sold amounts in the same manner.<\/p>\n<p>Facts and conditions not disclosed by the financial statements may, however, affect their interpretation. A single important event may have been largely responsible for a given relationship. For example, competitors may put a new product on the market, making it necessary for the company under study to reduce the selling price of a product suddenly rendered obsolete. Such an event would severely affect the percentage of gross margin to net sales. Yet there may be little chance that such an event will happen again.<\/p>\n<p>Analysts must consider general business conditions within the industry of the company under study. A corporation\u2019s downward trend in earnings, for example, is less alarming if the industry trend or the general economic trend is also downward.<\/p>\n<p>Investors also need to consider the seasonal nature of some businesses. If the balance sheet date represents the seasonal peak in the volume of business, for example, the ratio of current assets to current liabilities may be much lower than if the balance sheet date is in a season of low activity.<\/p>\n<p>Potential investors should consider the market risk associated with the prospective investment. They can determine market risk by comparing the changes in the price of a stock in relation to the changes in the average price of all stocks.<\/p>\n<p>Potential investors should realize that acquiring the ability to make informed judgments is a long process and does not occur overnight. Using ratios and percentages without considering the underlying causes may lead to incorrect conclusions.<\/p>\n<p>Even within an industry, variations may exist. Acceptable current ratios, gross margin percentages, debt to equity ratios, and other relationships vary widely depending on unique conditions within an industry. Therefore, it is important to know the industry to make comparisons that have real meaning.<\/p>\n<h3>Demonstration Problem<\/h3>\n<p>The balance sheet and supplementary data for Xerox Corporation follow:<\/p>\n<p><b><strong>Xerox Corporation<\/strong><\/b><\/p>\n<p><b><strong>Balance sheet with IOFS on an equity basis<\/strong><\/b><\/p>\n<p><b><strong>20XX December 31<\/strong><\/b><\/p>\n<p><b><strong>(USD millions)<\/strong><\/b><\/p>\n<table>\n<tbody>\n<tr>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<td><b><strong>20XX<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td><b><strong>Assets<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td>Cash<\/td>\n<td>$ 1,741<\/td>\n<\/tr>\n<tr>\n<td>Accounts receivable, net<\/td>\n<td>2,281<\/td>\n<\/tr>\n<tr>\n<td>Finance receivables, net<\/td>\n<td>5,097<\/td>\n<\/tr>\n<tr>\n<td>Inventories<\/td>\n<td>1,932<\/td>\n<\/tr>\n<tr>\n<td>Deferred taxes and other current assets<\/td>\n<td>1,971<\/td>\n<\/tr>\n<tr>\n<td>Total current assets<\/td>\n<td>$ 13,022<\/td>\n<\/tr>\n<tr>\n<td>Finance receivables due after one year, net<\/td>\n<td>7,957<\/td>\n<\/tr>\n<tr>\n<td>Land, buildings, and equipment, net<\/td>\n<td>2,495<\/td>\n<\/tr>\n<tr>\n<td>Investments in affiliates, at equity<\/td>\n<td>1,362<\/td>\n<\/tr>\n<tr>\n<td>Goodwill<\/td>\n<td>1,578<\/td>\n<\/tr>\n<tr>\n<td>Other assets<\/td>\n<td>3,061<\/td>\n<\/tr>\n<tr>\n<td>Total assets<\/td>\n<td>$ 29,475<\/td>\n<\/tr>\n<tr>\n<td><b><strong>Liabilities and stockholders\u2019 equity<\/strong><\/b><\/td>\n<td><b><strong>\u00a0<\/strong><\/b><\/td>\n<\/tr>\n<tr>\n<td>Short-term debt and current portion of long-term debt<\/td>\n<td>$ 2,693<\/td>\n<\/tr>\n<tr>\n<td>Accounts payable<\/td>\n<td>1,033<\/td>\n<\/tr>\n<tr>\n<td>Accrued compensation and benefit costs<\/td>\n<td>662<\/td>\n<\/tr>\n<tr>\n<td>Unearned income<\/td>\n<td>250<\/td>\n<\/tr>\n<tr>\n<td>Other current liabilities<\/td>\n<td>1,630<\/td>\n<\/tr>\n<tr>\n<td>Total current liabilities<\/td>\n<td>$ 6,268<\/td>\n<\/tr>\n<tr>\n<td>Long-term debt<\/td>\n<td>15,404<\/td>\n<\/tr>\n<tr>\n<td>Liabilities for post-retirement medical benefits<\/td>\n<td>1,197<\/td>\n<\/tr>\n<tr>\n<td>Deferred taxes and other liabilities<\/td>\n<td>1,876<\/td>\n<\/tr>\n<tr>\n<td>Discontinued policyholders\u2019 deposits and other operations liabilities<\/td>\n<td>670<\/td>\n<\/tr>\n<tr>\n<td>Deferred ESOP benefits<\/td>\n<td>(221)<\/td>\n<\/tr>\n<tr>\n<td>Minorities\u2019 interests in equity of subsidiaries<\/td>\n<td>141<\/td>\n<\/tr>\n<tr>\n<td>Preferred stock<\/td>\n<td>647<\/td>\n<\/tr>\n<tr>\n<td>Common shareholders\u2019 equity (108.1 million)<\/td>\n<td>3,493<\/td>\n<\/tr>\n<tr>\n<td>Total liabilities and shareholders\u2019 equity<\/td>\n<td>$ 29,475<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<ul>\n<li>Cost of goods sold, USD 6,197.<\/li>\n<li>Net sales, USD 18,701.<\/li>\n<li>Inventory, January 1, USD 2,290.<\/li>\n<li>Net interest expense, USD 1,031.<\/li>\n<li>Net income before interest and taxes, USD 647.<\/li>\n<li>Net accounts receivable on January 1, USD 2,633.<\/li>\n<li>Total assets on January 1, USD 28,531.<\/li>\n<\/ul>\n<p>Compute the following ratios:<\/p>\n<ol>\n<li>Current ratio.<\/li>\n<li>Acid-test ratio.<\/li>\n<li>Inventory turnover.<\/li>\n<\/ol>\n<h3>Solution to Demonstration Problem<\/h3>\n<ol>\n<li>Current ratio:<br \/>\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.48.06-PM.png\"><img loading=\"lazy\" decoding=\"async\" class=\"alignnone wp-image-409 size-full\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.48.06-PM.png\" alt=\"Current assets is divided by current liabilities is equal to 13,022,000,000 US dollars divided by 6,268,000,000 US dollars is equal to 2.08 to 1.\" width=\"473\" height=\"69\" \/><\/a><\/li>\n<li>Acid-test ratio:<br \/>\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.51.47-PM.png\"><img loading=\"lazy\" decoding=\"async\" class=\"alignnone size-full wp-image-410\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.51.47-PM.png\" alt=\"Quick assets divided by current liabilities is equal to 9,119,000,000 US dollars divided by 6,268,000,000 US dollars is equal to 1.45 to 1.\" width=\"461\" height=\"67\" \/><\/a><\/li>\n<li>Inventory\u00a0turnover:<br \/>\n<a href=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.53.21-PM.png\"><img loading=\"lazy\" decoding=\"async\" class=\"alignnone size-full wp-image-411\" src=\"https:\/\/courses.candelalearning.com\/masteryfinacct21x6xmaster\/wp-content\/uploads\/sites\/426\/2015\/05\/Screen-Shot-2015-05-12-at-2.53.21-PM.png\" alt=\"Net sales divided by average net accounts receivable is equal to 18,701,000,000 US dollars divided by 2,457,000,000 US dollars is equal to 7.61 time.\" width=\"620\" height=\"68\" \/><\/a><\/li>\n<\/ol>\n<\/div>\n<\/div>\n<p>&nbsp;<\/p>\n<p>&nbsp;<\/p>\n<h2>Check Your Understanding<\/h2>\n<p>Answer the question(s) below to see how well you understand the topics covered in this section. This short quiz does <strong>not<\/strong> count toward your grade in the class, and you can retake it an unlimited number of times.<\/p>\n<p>Use this quiz to check your understanding and decide whether to (1) study the previous section further or (2) move on to the next section.<\/p>\n<p>\t<iframe id=\"lumen_assessment_242\" class=\"resizable\" src=\"https:\/\/assessments.lumenlearning.com\/assessments\/load?assessment_id=242&#38;embed=1&#38;external_user_id=&#38;external_context_id=&#38;iframe_resize_id=lumen_assessment_242\" frameborder=\"0\" style=\"border:none;width:100%;height:100%;min-height:400px;\"><br \/>\n\t<\/iframe><\/p>\n<div id=\"post-262\" class=\"type-1 post-262 chapter type-chapter status-publish hentry\">\n<div class=\"entry-content\">\n<div class=\"footnotes\"><\/div>\n<\/div>\n<\/div>\n\n\t\t\t <section class=\"citations-section\" role=\"contentinfo\">\n\t\t\t <h3>Candela Citations<\/h3>\n\t\t\t\t\t <div>\n\t\t\t\t\t\t <div id=\"citation-list-3426\">\n\t\t\t\t\t\t\t <div class=\"licensing\"><div class=\"license-attribution-dropdown-subheading\">CC licensed content, Original<\/div><ul class=\"citation-list\"><li>Revision and adaptation. <strong>Authored by<\/strong>: Linda Williams and Lumen Learning. <strong>Provided by<\/strong>: Tidewater Community College. <strong>License<\/strong>: <em><a target=\"_blank\" rel=\"license\" href=\"https:\/\/creativecommons.org\/licenses\/by\/4.0\/\">CC BY: Attribution<\/a><\/em><\/li><\/ul><div class=\"license-attribution-dropdown-subheading\">CC licensed content, Shared previously<\/div><ul class=\"citation-list\"><li>Accounting Principles: A Business Perspective. <strong>Authored by<\/strong>: James Don Edwards, University of Georgia and Roger H. Hermanson, Georgia State University. <strong>Provided by<\/strong>: Endeavour International Corporation. <strong>Located at<\/strong>: <a target=\"_blank\" href=\"http:\/\/www.saylor.org\/site\/wp-content\/uploads\/2012\/10\/Accounting-Principles-Vol.-1.pdf\">http:\/\/www.saylor.org\/site\/wp-content\/uploads\/2012\/10\/Accounting-Principles-Vol.-1.pdf<\/a>. <strong>Project<\/strong>: The Global Text Project. <strong>License<\/strong>: <em><a target=\"_blank\" rel=\"license\" href=\"https:\/\/creativecommons.org\/licenses\/by\/4.0\/\">CC BY: Attribution<\/a><\/em><\/li><\/ul><\/div>\n\t\t\t\t\t\t <\/div>\n\t\t\t\t\t <\/div>\n\t\t\t <\/section>","protected":false},"author":124,"menu_order":17,"template":"","meta":{"_candela_citation":"[{\"type\":\"cc\",\"description\":\"Accounting Principles: A Business Perspective\",\"author\":\"James Don Edwards, University of Georgia and Roger H. 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