A.

Activity ratios - they provide information on a firm's ability to manage efficiently its current assets
(accounts receivable and inventory) and current liabilities (accounts payable).
1. Accounts Receivable Activity Ratios
 Measures the number of times receivables
“turn over” during a year’s time, or are
collected and are replaced with new
receivables. It tracks the efficiency of a firm’s
accounts receivable collections and indicates
Net Annual Credit Sales the amount of investment in receivables that
a. Accounts
is needed to maintain the firm’s level of sales.
Receivable
Average Gross Accounts  By comparing the accounts receivable
Turnover
Ratio Receivable turnover ratio from year to year for one
company, we can see how the company’s
collection rate changes over time. An
increase in the accounts receivable turnover
ratio indicates that receivables are being
collected more rapidly. A decrease indicates
slower collections.
 Measures the average number of days that
it takes a company to collect payment after a
sale has been made.
365  The accounts receivable turnover ratio and
days sales in receivables, or average
Receivables Turnover Ratio collection period, should be compared with
b. Days Sales industry averages, with previous periods’
in OR amounts for the same company, and with the
Receivable company’s credit terms. The number of days
s (Average Average Gross Accounts of sales in receivables should not be higher
Collection Receivable than the standard credit terms offered by
Period) the company. An average collection period
Average Daily Net Credit Sales that is higher than the standard credit terms
(Net Annual Credit Sales ÷ 365) offered may indicate poor collections
efforts, customer dissatisfaction leading to
refusal to pay, customers in financial distress
or an extreme delay of payment by one or
two large customers.
2. Inventory Activity Ratios - The inventory activity ratios will be affected by the company’s choice of
inventory valuation methods (FIFO, WAM, etc.), too. Thus, they may not be useful for comparing
companies when the companies use different inventory valuation methods.
 Indicates how many times during the year
the company sells its average level of
inventory.
 Measures both the quality of the inventory
and the liquidity of the inventory. Both
Annual Cost of Goods Sold
a. Inventory quality and liquidity of inventory give an
Turnover indication of the salability of the inventory.
Average Inventory
Ratio  If a company has a high inventory turnover
ratio, it may mean the company is using
good inventory management and is not
holding excessive amounts of inventories that
may be obsolete, unmarketable goods.
However, it can also mean that the company
 is not holding enough inventory and may be
losing sales, if prospective customers are
unable to make purchases because items are
out of stock.

365
Represents the average number of days that
Inventory Turnover inventory items remain in stock before being
sold, or the average number of days required to
b. Days Sales OR sell an item of inventory.
in
Inventory Average Inventory

Average Daily Cost of Sales

(Annual Cost of Sales ÷
365)