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Sales to Working Capital

Sales to Working Capital (Working Capital Turnover) – a liquidity and activity ratio indicating the amount of money from sales, generated by a dollar of working capital investment. In other words, a ratio measuring the efficiency of company's working capital utilization in order to generate the certain level of sales. High level of the sales to working capital ratio indicates good efficiency of firm's sales support with use of its current assets and liabilities. However, this also can mean the one of two negative tendencies: either a firm is being undercapitalized, or overtrading. Undercapitalized firms usually face problems with liquidity in case of major changes in business conditions. Low working capital turnover means that sales are not adequate to firm's working capital and company's sales are being generated through the unreasonably excessive use of the accounts receivable and inventories, which might cause bad quality debts and obsolete inventory.

Formula(s):

Sales to Working Capital = Sales ÷ Average Working Capital

Sales to Working Capital = Sales ÷ (Current Assets - Current Liabilities)

Example:

Sales to Working Capital (Year 1) = 3351 ÷ (954 - 588) = 9,41

Sales to Working Capital (Year 2) = 3854 ÷ (1102 - 815) = 13,42

The sales to working capital ratio increased from 9,41 in year 1 to 13,42 in year 2, which means the company has adapted its facilities to more profitable use of the working capital.

Conclusion:

High working capital turnover ratio commonly indicates the efficient use of company's working capital to generate and support the certain level of sales. In other words, it means that the working capital is used more times per year, which means more frequent flow of money through business. However, too high working capital turnover ratio may lead the analyst to making wrong conclusions, because it might indicate, that company's working capital is very low and soon it can run out of money for keeping the business functioning.

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