 How to Use the Total Asset Turnover Profitability Metric - dummies

# How to Use the Total Asset Turnover Profitability Metric

In the world of corporate finance, companies use a ratio called the total asset turnover profitability metric to determine how effective it is at using its assets to generate sales. The total asset turnover metric is calculated like this: Follow these steps to put this equation to use:

1. Find net sales at the top of the income statement.

2. Use the balance sheets from the current year and the previous year to find the average total assets: Add together the total assets of the current year and the total assets of the previous year, and then divide that value by 2.

3. Divide net sales by average total assets to get the total asset turnover.

Assets that don’t generate sales simply cost money. The simplest example here is inventory: If a company has assets in the form of inventory that isn’t being sold, then it’s paying for the storage of that inventory without actually generating sales on it. The total asset turnover metric helps indicate how well a company manages its assets.

A company may have a lot of assets, but how effective is that company at using its assets to generate income? To find out, use a ratio called return on assets, which you calculate like this: Put this equation to use by following these steps:

1. Find net income near the bottom of the income statement.

2. Use the balance sheets from the current year and the previous year to find the average total assets: Add together the total assets of the current year and the total assets of the previous year, and then divide that value by 2.

3. Divide net income by average total assets to get the return on assets.

The primary difference between return on assets and total asset turnover is that return on assets measures a company’s ability to turn assets into income rather than just sales. In other words, return on assets helps determine whether a company can use its assets to develop profitability, not just a volume of sales.