Professional Documents
Culture Documents
Liquidity of Short-Term
Assets; Related
Debt-Paying Ability
Chapter 6, Slide #3
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Receivables Issues (cont’d)
Chapter 6, Slide #4
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Receivables Issues (cont’d)
Chapter 6, Slide #5
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Receivables Issues (cont’d)
• Customer concentration
– May impair the quality of receivables if a large
portion of receivables is from a few customers
• Liquidity Ratios
– Number of days’ sales in receivables
– Accounts receivable turnover
Chapter 6, Slide #6
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Days’ Sales in Receivables
Gross Receivables
Net Sales
365
• Should mirror the company’s credit terms
• Reading reflects end-of-year status of receivables
– Use of the natural business year (lower sales at year-end) can
understate result
• Compare
– Firm data for several years
– Other industry firms and industry averages
Chapter 6, Slide #7
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Days’ Sales in Receivables (cont’d)
Chapter 6, Slide #8
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Accounts Receivable Turnover
Net Sales
Average Gross Receivables
Chapter 6, Slide #9
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.
Accounts Receivable Turnover in Days
Average Gross Receivables
Net Sales
365
• Perpetual
– A continuous record of
• Physical quantities is maintained
• Inventory and cost of goods sold, updated as sales and
purchases take place
– Records are verified through physical inventory
• Periodic
– Periodic physical inventories to determine quantity
– Attach costs to ending inventory based on selected
cost flow assumption(s)
• Specific identification
– Tracking of specific cost normally impractical
– Exceptions: large and/or expensive items
• Cost flow assumptions
– FIFO (first-in, first-out)
– LIFO (last-in, first-out)
– Average
Current Assets
– Current Liabilities
= Working Capital
Cash Equivalents
+ Marketable Securities
+ Net Receivables
Current Liabilities
• Extremely conservative
– Unrealistic for a firm to have sufficient cash and
securities to cover all its current liabilities
• Appropriate context
– Firms with naturally slow-moving inventory and
receivables
– Firms that are highly speculative
Sales
Average Working Capital
• Measures the turnover of working capital per year
• Compare with
– Historical data
– Industry competitors
– Industry averages
• Assessment
– Low: potentially unprofitable use of working capital
– High: potential undercapitalization