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In a question which asks to discuss working capital management of a co (APX, question 15 in kaplan kit), i calculated also calculated the WC turnover ratio
this ratio is: sales/net WC
given sales: 16m
given Current assets = 4.6m
given Current liab=4.1therefore the WC TO = 16/.5=32
forecast figures (these have to be calculated and the numbers below are all correct)
forecast sales 17.344m
forecast Curr. Assets=6.748m
forecast Curr. liab=5.363the forecast WC TO = 17.344/(6.748-5.363)=12.52
this is a massive drop and i am unable to understand its significance.
the liquidity ratios are as follows:
———————-forecast——–previous
Inv days———-110——————81
AR Days———-65——————-50
AP Days———-75——————-64
Curr Ratio——–1.26—————-1.1
GP%—————30——————-32
Net Profit%——–20——————-23
ROCE————–14.8—————-16.4i understand the liquidity issues with APX but i want to tie in the WC TO ratio as well.
———————————-
and one more: if the current assets=current liab, then the WC TO is infinity. what does this mean??thanks
I do not have the Kaplan Exam Kit and so I am answering based on the figures that you have typed.
Sales to net WC is not actually a common ratio to look at.
On the one hand, a low net working capital figure can suggest liquidity problems, which you understand.On the other hand, we don’t want net working capital to be too high because although some working capital is needed, it is not actually earning profits and the money would be better invested in growing the businesses.
What is ‘too high’ depends on the size of the business and so we can look at the sales to net working capital. In this respect the higher the ratio the better.However, again, it is a very unusual measure to look at (and I don’t think it has ever been relevant in the exam). What looks at the same thing (and in a better way and a more common way) is to measure the operating cycle – the shorter it is the better.
(working capital turnover of infinity in itself means nothing (which is another reason why it is not a common measure). Again all we can say is that from a profitability point of view it is very good (the higher the better) but, of course, there are then very likely to be liquidity problems.)
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