asset turnover into its component parts to address this question. The major compo-
nents of total assets for many companies are accounts receivable, inventory, and fixed
assets (property and equipment). Thus, the total asset turnover can be evaluated in
terms of these three subcategories of assets.Accounts Receivable Analysis
The size and makeup of accounts receivable change constantly during business oper-
ations. Sales on account increase accounts receivable, whereas collections from cus-
tomers decrease accounts receivable. Firms that grant long credit terms usually have
larger accounts receivable balances than those granting short credit terms. Increases or
decreases in the volume of sales also affect the balance of accounts receivable.
Collecting receivables as promptly as possible is desirable. The cash collected from
receivables improves liquidity. In addition, the cash generated by prompt collections
from customers may be used in operations for such purposes as purchasing merchan-
dise in large quantities at lower prices. The cash may also be used for payment of div-
idends to stockholders or for other investing or financing purposes. Prompt collection
also lessens the risk of loss from uncollectible accounts.Accounts Receivable Turnover. The relationship between credit sales and accounts
receivable may be stated as the accounts receivable turnover. This ratio is computed
by dividing net sales by the average net accounts receivable.^4 Basing the average on
monthly balances, which allows for seasonal changes in sales, is desirable. When such
data are not available, it may be necessary to use the average of the accounts receiv-
able balance at the beginning and end of the year. If there are trade notes receivable as
well as accounts, the two may be combined. The accounts receivable turnover data for
Pixar and DreamWorks are as follows:DreamWorks’ accounts receivable turnover is much greater than that of Pixar.
However, both companies turn their accounts reveivable very slowly.Number of Days’ Sales in Receivables. Another measure of the relationship be-
tween net sales and accounts receivable is the number of days’ sales in receivables.
This ratio is computed by dividing the net average accounts receivable by the average
daily sales. Average daily sales is determined by dividing net sales by 365 days.642 Chapter 14 Financial Statement Analysis
Pixar DreamWorks
(in millions, (in millions,
except ratio) except ratio)
a. Net sales $ 273.50 $1,078.20
Accounts receivable (net):
Beginning of year $ 204.90 $ 132.30
End of year 82.00 386.10
Total $ 286.90 $ 518.40
b. Average (Total ÷ 2) $ 143.45 $ 259.20
Accounts receivable turnover (a ÷ b) 1.91 4.164 Alternatively, the net sales on account can be used for the calculation. However, this number may not
be publicly available; thus, net sales must be used. When so doing, the analyst must be aware that cash
sales could impact the interpretation of the analysis.