Activity Ratio Formula

Activity Ratio Formula (Table of Contents)

• Formula
• Examples
• Calculator

What is the Activity Ratio Formula?

The term “activity ratio” refers to the set of financial ratios that helps in determining whether or not the management of a company is able to efficiently utilize the assets in order to generate operational cash. In other words, these ratios indicate how effectively the company’s management is converting its assets into cash. The following four ratios are the primary activity ratios that are predominantly used in financial analysis:

1. Accounts Receivable Turnover Ratio
2. Merchandize Inventory Turnover Ratio
3. Total Asset Turnover Ratio
4. Net Fixed Asset Turnover Ratio

Example of Activity Ratio Formula (With Excel Template)

Let’s take an example to understand the calculation of the Activity Ratio in a better manner.

Activity Ratio Formula – Example #1

Let us take Apple Inc.’s example to calculate the various activity ratios based on its annual report for the year 2019. During the year, the company booked revenue of $260,174 million against the cost of sales of $161,782 million. The accounts receivable, total assets, net fixed assets, and inventories stood at $23,186 million, $365,725 million, $41,304 million and $3,956 million respectively at the beginning of the year. On the other hand, accounts receivable, total assets, net fixed assets, and inventories stood at $22,926 million, $338,516 million, $37,378 million and $4,106 million respectively at the end of the year. Calculate the following activity ratios for Apple Inc:

Solution:

Accounts Receivable Turnover Ratio is calculated using the formula given below

Accounts Receivable Turnover Ratio = 2 * Revenue / (Opening Accounts Receivable + Closing Accounts Receivable)

• Accounts Receivable Turnover Ratio  = 2 * $260,174 million / ($23,186 million + $22,926 million)
• Accounts Receivable Turnover Ratio = 11.28x

Merchandisze Inventory Turnover Ratio is calculated using the formula given below

Merchandize Inventory Turnover Ratio = 2 * Cost of Sales / (opening Inventories + Closing Inventories)

• Merchandize Inventory Turnover Ratio = 2 * $161,782 million / ($3,956 million + $4,106 million)
• Merchandize Inventory Turnover Ratio = 40.13x

Total Asset Turnover Ratio is calculated using the formula given below

Total Asset Turnover Ratio = 2 * Revenue / (Opening Total Assets + Closing Total Assets)

• Total Asset Turnover Ratio = 2 * $260,174 million / ($365,725 million + $338,516 million)
• Total Asset Turnover Ratio = 0.74x

Net Fixed Asset Turnover Ratio is calculated using the formula given below

Net Fixed Asset Turnover Ratio = 2 * Revenue / (Opening Net Fixed Assets + Closing Net Fixed Assets)

• Net Fixed Asset Turnover Ratio = 2 * $260,174 million / ($41,304 million + $37,378 million)
• Net Fixed Asset Turnover Ratio = 6.61x

Source Link: Apple Inc. Balance Sheet

Explanation

The formula for Activity Ratio Formula can be calculated by using the following points:

1. Accounts Receivable Turnover Ratio

This ratio is indicative off the credit policies of a company and in the process measures its ability to collect its accounts receivable that are created due to credit sales. Typically, a higher value means that the company is able to collect its receivables quickly which indicates strong credit policies and vice versa. The ratio is also known as the debt turnover ratio. The formula for accounts receivable turnover ratio is expressed as revenue of the subject company divided by its average accounts receivable. Mathematically, it is represented as,

2. Merchandise Inventory Turnover Ratio

This ratio shows how effectively a company is able to convert its stock and work in progress (WIP) inventory into cash. Typically, a higher value means that the company is able to sell of its inventory quickly to generate sales and vice versa. The ratio is also known as a stock turnover ratio. The formula for merchandise inventory turnover ratio is expressed as cost of sales divided by average inventories. Mathematically, it is represented as,

3. Total Asset Turnover Ratio

This ratio indicates the ability of a company to generate sales by leveraging all the available long-term and short-term assets. Typically, a higher value means that the company is able to generate higher sales by leveraging its assets which is desirable. The formula for the total asset turnover ratio is expressed as revenue divided by the average value of total assets during the given period. Mathematically, it is represented as,

4. Net Fixed Asset Turnover Ratio

This ratio shows the ability of a company to generate sales by utilizing its fixed assets in the form of plant, property, and machinery. Typically, a higher value indicates that the company utilizes its fixed assets very efficiently. The formula for the net fixed asset turnover ratio is expressed as revenue divided by the average value of net fixed assets for the period. Mathematically, it is represented as,

Relevance and Use of Activity Ratio Formula

The formula of activity ratio is very useful as it shows how well a business is able to convert its available assets into cash or sales. As such, it is considered to be a very good performance metric to check how efficiently is a business run. Accounting departments and management predominantly use these activity ratios to assess their business efficiency.

Activity Ratio Formula Calculator

You can use the following Activity Ratio Formula Calculator

Recommended Articles

This is a guide to the Activity Ratio Formula. Here we discuss how to calculate the Activity Ratio along with practical examples. We also provide an Activity Ratio calculator with a downloadable excel template. You may also look at the following articles to learn more –

1. Activity Ratio
2. Accounting Ratios
3. Turnover Ratios
4. Average Collection Period Formula