Question

Regarding Microsoft's financial statements:

Most of their efficiency ratios are low in comparison to the industry standard.

this includes Accounts Receivable Turnover, total asset turnover, and inventory turnover.

Why is this and what does that tell us about the company?

Answer 1

The asset turnover ratios measure the company's efficiency in the use of assets in generating sales revenue. In most cases it is observed that a low asset turnover is complimented by a high profit margin and vice versa.

Asset turnover is computed by dividing sales by total assets, while profit margin is computed by dividing net income by sales. Therefore, while one has sales in the numerator, the other has sales in the denominator.

It is possible that Microsoft has recently gone for a large investment in assets. That would lower its asset turnover, as the investment would take its time in converting into sales.

Inventory turnover is computed by dividing cost of goods sold by inventory. It represents how many times inventory is sold and replaced during the year. Microsoft's lower inventory turnover means that it is holding too much inventory relative to its sales. A decreasing inventory turnover could mean that sales are decreasing.

Accounts receivable turnover is computed by dividing net credit sales by accounts receivable. Accounts receivables turnover indicates the efficiency of the company in collecting its credit sales. A low accounts receivables turnover could mean that Microsoft is having difficulties in collecting its credit sales, or that it is following a lenient credit policy as compared to its peers in inductry.