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Accounting - Topics - Understanding and using accounting information -
Efficiency ratios

Efficiency ratios

Debtors turnover [1] (credit sales/average debtors)

* credit sales

* extension of credit terms offered to potential credit customers

* offering of credit to a greater range of potential customers

* debtors

The reduction of average debtors will also improve this ratio:

* discount offered to debtors

* reduction in credit offered

* incentives to buy for cash

* charging of interest (must be a term of the contract)

* more careful selection of credit customers

* refusal of further credit until payment

* factoring of debtors

* more frequent invoicing

Stock turnover [2] (cost of goods sold/average inventory)

The cost of sales will improve with greater sales. This is favourable to
the business. On the other hand a business may face an increase in cost of
sales, with increased unit costs and be unable to increase selling price
accordingly. This would be unfavourable to the business.

* carrying of less stock - this is supported by strategies such as 'just
in time'. Stock is bought to meet immediate needs and minimal stock is
carried by the business

* immediate sale/disposal of obsolete or slow moving lines

* monitoring of stock levels and the turnover of individual lines

Creditors turnover (Credit purchases/average creditors)

The terms offered by creditors must be noted when measuring the success of
a business in dealing with this ratio. If creditors offer 30 days and the
ratio is below 30 days this would indicate that the business is taking
advantage of discounts and maintaining a happy relationship with creditors.

By taking longer to pay than the terms offered means that the business is:

* jeopardising future supplies

* influencing the quality of service, such as being informed about new
products and so on

* reducing discounts received

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[1] http://alison.com/#
[2] http://alison.com/#