3. Asset management ratios

Asset management ratios are used to measure how effectively afirm manages its assets.

Remember, there are two slightly different equations that can beused to evaluate the management of a firm’s inventory. In eithercase, the inventory management ratio puts the inventory balance inthe denominator and either its corresponding Sales value or thecorresponding Cost of Goods Sold (COGS) value in the numerator. Inthe first (older) sales-based computation, the ratio identifies thenumber of sales dollars generated with each dollar of inventoryheld. The second, newer equation—which places COGS in thenumerator—compares the costs of producing the firm’s goods with theamount of inventory held. Don’t forget that the components of COGSare direct materials, direct labor, and the overhead associatedwith producing the firm’s goods and services. Therefore, theCOGS-based version of the ratio compares the firm’s inventory withits costs, whereas the Sales-based version compares the inventorybalance with the firm’s revenues and profits.

Now, consider the following case:

Mall Toys Co. has a quick ratio of 2.00x, $37,575 in cash,$20,875 in accounts receivable, some inventory, total currentassets of $83,500, and total current liabilities of $29,225. Thecompany reported annual sales and cost of goods sold of $100,000and $70,000, respectively, in the most recent annual report.

Over the past year, Mall Toys Co. sold and replace its ? x  times this year (using the sales-based inventoryturnover ratio) and ? times per year (using the COGS-basedratio).

The sales-based inventory turnover ratio across companies in theindustry is 4.39x. Based on this information, which of thefollowing statements is true for Mall Toys Co.?

a.Mall Toys Co. is holding more inventory per dollar of salescompared to the industry average.

b.Mall Toys Co. is holding less inventory per dollar of salescompared to the industry average.