Fixed Assets Turnover Ratio Example & Formula

The Fixed Assets Turnover Ratio (FATR) is a financial metric that measures how effectively a company is utilizing its fixed assets to generate revenue. It is a key indicator of operational efficiency and plays a crucial role in assessing a company’s ability to leverage its long-term assets, such as property, plant, equipment, and other fixed resources, to produce sales. Essentially, the ratio highlights the relationship between a company’s fixed assets and its sales, offering insight into how well the business is generating revenue relative to the value of its long-term assets.

Fixed assets are considered the backbone of a company's operations. These tangible assets are not meant for immediate sale but are used in the production of goods and services, contributing to the company’s overall productivity and profitability. Since they are long-term investments, businesses aim to maximize their utility to drive growth and revenue. The Fixed Assets Turnover Ratio evaluates how effectively these assets are being used in relation to the sales the company generates. A higher ratio indicates that the company is using its fixed assets more efficiently, generating more revenue for every dollar invested in its physical infrastructure.

The Fixed Assets Turnover Ratio is typically calculated by dividing the company’s total sales or revenue by the average value of its fixed assets during the same period. The resulting figure shows how many dollars of revenue are being generated for every dollar invested in fixed assets. If the ratio is high, it suggests that the company is effectively utilizing its fixed assets to generate sales. Conversely, a low ratio may indicate that the company is under-utilizing its fixed assets, failing to generate sufficient revenue relative to the capital invested in physical assets.

A higher Fixed Assets Turnover Ratio can be seen as a positive sign, suggesting that a company is efficiently using its long-term assets to produce revenue. Companies with high ratios are able to extract more sales per unit of fixed assets, signaling strong operational efficiency and asset utilization. For instance, companies in industries such as manufacturing, retail, and technology, where large investments in fixed assets are typical, would generally aim for higher Fixed Assets Turnover Ratios. In these sectors, a well-maintained and efficiently used asset base is often directly tied to a company’s ability to generate strong sales and maintain competitive advantage.

On the other hand, a lower Fixed Assets Turnover Ratio indicates that the company might not be making the best use of its fixed assets. This could suggest under-utilization of its production capacity, excessive idle or unused assets, or inefficient management of physical resources. For example, if a company has a large number of assets sitting idle or underperforming, it may not be fully exploiting its potential to generate sales. In such cases, the company may face difficulties in recouping the cost of its long-term investments, which can lead to lower profitability and strained financial health.

Several factors can influence the Fixed Assets Turnover Ratio. One of the most significant factors is the nature of the industry in which the company operates. Different industries have varying capital requirements, and thus, the benchmarks for what constitutes a "good" Fixed Assets Turnover Ratio can vary widely. For example, capital-intensive industries like manufacturing and heavy construction, where high investments in machinery and equipment are common, may naturally have lower ratios compared to industries such as software development or consulting, where fixed asset investments are relatively minimal. Therefore, when interpreting the ratio, it is crucial to consider industry standards and compare the company’s performance against its peers.

Another important factor that impacts the Fixed Assets Turnover Ratio is the company’s investment in its fixed assets. Companies that continually invest in and upgrade their physical assets, such as new machinery or modernized facilities, can improve their efficiency in generating sales. However, it’s also possible for a company to over-invest in fixed assets without a corresponding increase in sales. In this case, the Fixed Assets Turnover Ratio would be low, indicating that the company is spending more on assets than it can generate in revenue. In such situations, a company may need to reassess its investment strategies or consider ways to better leverage its existing assets.

One potential limitation of the Fixed Assets Turnover Ratio is its reliance on historical cost accounting for fixed assets. Since fixed assets are typically recorded at their original purchase price, the ratio may not fully reflect the current value or depreciation of the assets. This can be particularly problematic for companies that own assets that have significantly appreciated in value over time, as their true economic value may not be captured in the ratio. Similarly, for companies with older assets that have depreciated significantly, the ratio may overstate the effective utilization of the company’s fixed assets. To mitigate this issue, some companies may choose to use more sophisticated methods, such as adjusted or market value-based accounting, to provide a more accurate picture of asset efficiency.

Additionally, the Fixed Assets Turnover Ratio does not account for differences in the types of fixed assets a company possesses. Not all fixed assets contribute equally to the company’s revenue generation. For instance, a company’s buildings or land may not be directly involved in production, whereas machinery or equipment might be more critical to sales generation. Therefore, a more nuanced approach to analyzing asset utilization might involve breaking down the Fixed Assets Turnover Ratio into specific categories of fixed assets, providing a clearer view of how each type of asset contributes to revenue.

The ratio is also limited in its ability to account for qualitative factors that could influence asset utilization. For example, changes in the broader economic environment, technological advancements, or shifts in consumer demand can all impact a company’s ability to leverage its fixed assets. A company that is facing a downturn in demand for its products or services might see a decline in sales even if its assets are being efficiently used, leading to a lower Fixed Assets Turnover Ratio. In such cases, the ratio alone may not be sufficient to evaluate asset utilization, and other financial and qualitative factors must be considered.

Moreover, the Fixed Assets Turnover Ratio should not be used in isolation. To gain a more comprehensive understanding of a company’s operational efficiency, investors and analysts often look at it alongside other financial ratios, such as Return on Assets (ROA), Asset to Equity Ratio, or Inventory Turnover Ratio. By considering a combination of financial metrics, analysts can gain a deeper understanding of how well a company is managing its assets and resources, both short-term and long-term.

In addition to its role in financial analysis, the Fixed Assets Turnover Ratio can also be used for performance benchmarking. By comparing a company’s ratio to industry averages or competitors, it is possible to assess whether the company is performing better or worse in terms of asset utilization. If a company consistently underperforms in this area, management may need to focus on improving operational processes, better utilizing existing assets, or reducing excess capacity to improve efficiency and increase sales.

In conclusion, the Fixed Assets Turnover Ratio is a valuable tool for evaluating how well a company is utilizing its fixed assets to generate revenue. A high ratio suggests that a company is efficiently using its long-term assets, while a low ratio may indicate inefficiency or under-utilization. However, like any financial ratio, the Fixed Assets Turnover Ratio has limitations and should be interpreted in context, taking into account factors such as industry norms, asset type, and economic conditions. By carefully analyzing this ratio alongside other financial metrics, investors and analysts can gain valuable insights into a company’s operational efficiency and make more informed decisions regarding its financial health and future prospects.

Formula:
Fixed Assets Turnover Ratio = Sales / Net Fixed Assets

Example 1:
PCK Company has total fixed assets of $25 million at cost and an average accumulated depreciation of $3 million. If its net sales were $88 million, then:
  Average net fixed assets = 25 million - 3 million = $22 million
  FATR = 88 million / 22 million = 4

Example 2:
Calculate FATR with the following data:
Total sales $700,000
Sales returns $40,000
Buildings $280,000
Accumulated depreciation - Buildings $10,000
Motor vehicles $27,000
Accumulated depreciation - Motor vehicles $2,000
Equipment $31,000
Accumulated depreciation - Equipment $1,000
Furniture $6,200
Accumulated depreciation - Furniture $1,200
Bank $69,500
Debtors $47,000
Stocks $22,000

Solution:
Net Sales = 700,000 - 40,000 = $660,000
Net Fixed Assets = (280,000 - 10,000) + (27,000 - 2,000) + (31,000 - 1,000) + (6,200 - 1,200) = $330,000

FATR = 660,000 / 330,000 = 2