Sales Efficiency Ratio
Sales to Total Assets The ratio of sales to total assets indicates how inten-
sively the total assets are used in production. One prefers a higher sales to
total assets ratio. A low sales to total assets ratio in comparison with simi-
lar firms or with previous periods gives some indication of idle capacity—
that is, excess assets compared to the level of operations. Interindustry
comparisons of this ratio are not very useful. A wholesale distributor, for
example, with no processing costs, a small margin, and a large turnover of
goods shows a relatively high volume of sales to total assets. A better ratio
to measure the basic concept of the rate of utilization of capital would be
value added to total asset—that is, something approaching a capital coeffi-
cient. Unfortunately, possibly because of statistical difficulties, value-added
ratios are not commonly used in financial analysis.
Profitability Ratios
Profitability ratios tell the investor how efficiently a corporation uses its as-
sets to produce net income or profits.
Net Profit (Net Income) to Total Assets This ratio is intended to relate the
return of the firm to its total investment (i.e., the total assets it has avail-
able). It has some use, but it is subject to the criticism that the relationship
presented is not the most logical one and that it does not present sufficient
new information. The net profit figure has already been reduced by taxes
and the cost of external funds (i.e., interest); to relate this figure to total as-
sets is an illogical relating of a net concept (net profits) with a gross con-
cept (total assets). Moreover, the ratio does not give much independent
information if the net profit on owners’ equity is to be calculated too, as it
usually is. Obviously the net profit rate of return (or rate of loss) on total
assets is always less than that on the owners’ equity. The difference de-
pends on the relative amount of total leverage.^3 One prefers higher prof-
itability ratios.
Net Profits to Sales The net income to sales ratio allows the investor to
compare its net income to sales, in addition to its total assets.
Net Profits to Equity The net income to sales ratio allows the investor to
compare its net income to equity, in addition to its total assets and sales.
The firm’s return on equity allows the investor or creditor to assess the
firm’s efficient use of its assets to generate net income, and its effective use
of leverage. A comparison of this ratio to rate of profit on equity indicates