## Total Asset Turnover

A fairly straightforward exercise, total asset turnover gauges the performance of net sales relative to total assets. Again mixing components of the income statement and balance sheet, assets are shown as the denominator and net sales in the numerator. One point that should now be clear with regard to ratio analysis is that most improvements come from increasing the numerator, decreasing the denominator or a combination of the two. Armed with the detailed review of how to improve both figures from previous calculations, the tactics necessary to achieve these goals are abundant at this time. What is not clear is how NikoTech's sales weighed in against its investment in total assets.

Based on the results in Table 13.10, total asset turnover between Y1 and Y2 remained stable (0.9 to 0.95, respectively). Stating NikoTech's numbers relative to sales, the company cycled through, or "turned over," its assets 0.9 times in Y1 and 0.95 times in Y2. Better expressed in the dollar-denominated language of finance, for every dollar invested in assets, NikoTech was able to generate sales of $0.90 and $0.95 in Y1 and Y2, respectively. As was the case in DPO, horizontal analysis does not really tell much of a story, as the shift year to year is noticeable but not huge. To be meaningful, these figures must be viewed from several angles.

## Table 13.10: Y1 and Y2 Total Asset Turnover

Y1 | Y2 | |
---|---|---|

Total Asset Turnover | 0.9 | 0.95 |

If NikoTech compared its total asset turnover with publicly available industry and competitor information, the company would find itself at the low end of the spectrum. Asset turnover is about generating sales as a result of investing in assets, so to have less than a dollar in sales for every dollar in assets is an abomination in most any industry. Even though total asset turnover improved by $0.05 (5.5%) in Y2, in real terms the variables that impact the equations are not healthy and must be attacked immediately. A simple process of elimination will expose the culprits, the determination of which should be of little surprise to NikoTech management.

Focusing on the numerator and denominator of this ratio, the story unfolds rather quickly. Fixed assets only increased by $24 million in Y2, so it is clear that if the growth in the denominator is dragging the ratio down, it did not come from huge investments in P&E. Also, net sales grew by 18% in Y2, so theoretically, if those sales figures could have been achieved while maintaining a relatively stable asset figure, the result would have been favorable for NikoTech. However, it is a well-documented fact that current assets increased dramatically in Y2, consequently offsetting any gains made on the sales side of the equation.

If the sales growth was there and increases in fixed assets were minimal, the study leads NikoTech directly to the perennial troublemakers: inventory and receivables. At the risk of being redundant, NikoTech's management must continue to focus on the methods discussed earlier to rationalize the current asset figures, now to the benefit of ratios that measure the performance of total assets.

It was suggested during a brief discussion on returns and allowances (R&A) that improvements in this line item would have a positive reflection on several financial ratios. In the case of total asset turnover, any reduction in R&A would boost net sales and hence improve the ratio. A hypothetical situation illustrates this point with clarity.

Consider for a moment a scenario in which NikoTech's Y2 R&A is 50% less than the actual number of $147 million, or $73.5 million. Also envision a situation where the R&A improvement is accompanied by a reduction of $210 million in inventory and receivables. Table 13.11 displays the results of improvements in both the numerator and denominator of this ratio.

## Table 13.11: Y2 Total Asset Turnover Improvement

in Millions | |||
---|---|---|---|

Net Sales | Total Assets | TAT | |

Before Improvement | $1,698 | $1,776 | 0.95 |

After Improvement | $1,771.5 | $1,566 | 1.13 |

By working both sides of this supply chain ratio, the total asset turnover calculation improves from 0.95 to 1.13. This positive change of 0.18 signifies a 19% improvement in the ratio; in other words, for every dollar invested in assets, NikoTech would generate $1.13 in sales. Thinking in terms of future tactics, a first-pass enhancement of supply chain execution by NikoTech should harvest similar results, with the benefits cascading through the entire organization.