What Is the Asset Turnover Ratio?

What Is the Asset Turnover Ratio?

The asset turnover ratio measures the value of a company's sales or revenues relative to the value of its assets. The asset turnover ratio indicates the efficiency with which a company is using its assets to generate revenue.

The higher the asset turnover ratio, the more efficient a company is. Conversely, if a company has a low asset turnover ratio, it means it is not efficiently using its assets to create revenue.

Calculating Asset Turnover Ratio

The asset turnover ratio uses the value of a company's assets in the denominator of the formula. The average value of the assets for the year is determined using the value of the company's assets on the balance sheet as of the start of the year and at the end of the year. The sum of the two values is divided by two. Total sales or revenue is found on the company's income statement and is the numerator.

$\begin{aligned} &\text{Asset Turnover} = \frac{ \text{Total Sales} }{ \frac { \text{Beginning Assets}\ \ \text{Ending Assets} }{ 2 } } \\ &\textbf{where:}\\ &\text{Total Sales} = \text{Annual sales total} \\ &\text{Beginning Assets} = \text{Assets at start of year} \\ &\text{Ending Assets} = \text{Assets at end of year} \\ \end{aligned}$​Asset Turnover=2Beginning Assets   Ending Assets​Total Sales​where:Total Sales=Annual sales totalBeginning Assets=Assets at start of yearEnding Assets=Assets at end of year​

What the Ratio Means

Typically, the asset turnover ratio is calculated on an annual basis. The higher the asset turnover ratio, the better the company is performing, since higher ratios imply that the company is generating more revenue per dollar of assets.

The asset turnover ratio tends to be higher for companies in certain sectors than others. Retail and consumer staples, for example, have relatively small asset bases but have high sales volume—thus, they have the highest average asset turnover ratio. Conversely, firms in sectors such as utilities and real estate have large asset bases and low asset turnover.

Asset Turnover Examples

The asset turnover ratio for Walmart Inc. (WMT), Target Corporation (TGT), AT&T Inc. (T), and Verizon Communications Inc. (VZ) for FY2023 is shown in the table below.

AT&T and Verizon have asset turnover ratios of less than one, which is typical for firms in the telecommunications-utilities sector. These companies have large asset bases, so it is expected that they slowly turn over their assets through sales.

It would not make sense to compare the asset turnover ratios for Walmart and AT&T, since they operate in different industries. Comparing the relative asset turnover ratios for AT&T with Verizon may provide a better estimate of which company is using assets more efficiently in that sector. From the table, Verizon turns over its assets at a faster rate than AT&T.

For every dollar in assets, Walmart generated $2.51 in sales, while Target generated $1.98. Target's turnover could indicate that the retail company was experiencing sluggish sales or holding obsolete inventory. Fixed assets such as property or equipment could be sitting idle or not being utilized to their full capacity.

DuPont Analysis

The asset turnover ratio is a key component of DuPont analysis, a system that the DuPont Corporation began in the 1920s to evaluate performance across corporate divisions. The first step of DuPont analysis breaks down return on equity (ROE) into three components, including asset turnover, profit margin, and financial leverage.

$\begin{aligned} &\text{ROE} = \underbrace{ \left ( \frac{ \text{Net Income} }{ \text{Revenue} } \right ) }_\text{Profit Margin} \times \underbrace{ \left ( \frac{ \text{Revenue} }{ \text{AA} } \right ) }_\text{Asset Turnover} \times \underbrace{ \left ( \frac{ \text{AA} }{ \text{AE} } \right ) }_\text{Financial Leverage} \\ &\textbf{where:}\\ &\text{AA} = \text{Average assets} \\ &\text{AE} = \text{Average equity} \\ \end{aligned}$​ROE=Profit Margin(RevenueNet Income​)​​×Asset Turnover(AARevenue​)​​×Financial Leverage(AEAA​)​​where:AA=Average assetsAE=Average equity​

Sometimes, investors and analysts are more interested in measuring how quickly a company turns its fixed assets or current assets into sales. In these cases, the analyst can use specific ratios, such as the fixed-asset turnover ratio or the working capital ratio to calculate the efficiency of these asset classes. The working capital ratio measures how well a company uses its financing from working capital to generate sales or revenue.

Asset Turnover vs. Fixed Asset Turnover

The asset turnover ratio considers the average total assets in the denominator, while the fixed asset turnover ratio looks at only fixed assets. The fixed asset turnover ratio (FAT ratio) is used by analysts to measure operating performance. This efficiency ratio compares net sales on the income statement to fixed assets on the balance sheet to measure a company's ability to generate net sales from its fixed-asset investments, namely property, plant, and equipment (PP&E).

The fixed asset balance is a used net of accumulated depreciation. Depreciation is the allocation of the cost of a fixed asset, which is expensed each year throughout the asset's useful life. Typically, a higher fixed asset turnover ratio indicates that a company has more effectively utilized its investment in fixed assets to generate revenue.

The Bottom Line

The asset turnover ratio is a metric that compares revenues to assets. A high asset turnover ratio indicates a company that is exceptionally effective at extracting a high level of revenue from a relatively low number of assets. As with other business metrics, the asset turnover ratio is most effective when used to compare different companies in the same industry.