Working Capital Turnover Ratio

What is Working Capital Turnover Ratio?

Working Capital Turnover Ratio helps in determining that how efficiently the company is using its working capital (current assets – current liabilities) in the business and is calculated by diving the net sales of the company during the period with the average working capital during the same period.

Working Capital Turnover Ratio Formula

It signifies that how well a company is generating its sales with respect to the working capital of the company. The working capital of a company is the difference between the current assets and current liabilities of a company.

The formula for calculating this ratio is by dividing the sales of the company by the working capital of the company.

Working Capital Turnover Ratio Formula = Sales/ Working Capital
Working-Capital-Turnover-Ratio-Formula

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Source: Working Capital Turnover Ratio (wallstreetmojo.com)

Interpretation

It signifies that how well a company is generating its sales with respect to the working capital of the company. The two variables to calculate this ratio is sales or turnover and the working capital of a company. The working capital of a company is the difference between the current assets and current liabilities of a company.

Examples

Let’s see some simple examples for the calculation of the working capital turnover ratio formula to understand it better.

Example#1

Let us try to understand how to calculate the working capital of an arbitrary company by assuming the variables used to calculate working capital turnover.

Suppose for a company A, the sales for a particular company are $4000.

Working capital turnover eg 1

For the calculation of working capital, the denominator is the working capital. Working capital, which is current assetsCurrent AssetsCurrent assets refer to those short-term assets which can be efficiently utilized for business operations, sold for immediate cash or liquidated within a year. It comprises inventory, cash, cash equivalents, marketable securities, accounts receivable, etc.read more minus current liabilities, is a balance sheet itemCurrent Liabilities, Is A Balance Sheet ItemCurrent Liabilities are the payables which are likely to settled within twelve months of reporting. They're usually salaries payable, expense payable, short term loans etc.read more that is why it is important to take the average of working capital. Let’s assume that the working capital for the two respective periods is 305 and 295.

So, the following is the calculation of the Working Capital Turnover Ratio.

Working capital turnover eg 4.1png

The result will be –

Working capital turnover eg 4.2png

Example#2

Let us try to understand how to calculate this ratio of Tata Steel.

Working capital turnover eg 2

For the calculation of working capital, the denominator is the working capital. Working capital, which is current assets minus current liabilities, is a balance sheet itemBalance Sheet ItemAssets such as cash, inventories, accounts receivable, investments, prepaid expenses, and fixed assets; liabilities such as long-term debt, short-term debt, Accounts payable, and so on are all included in the balance sheet.read more that is why it is important to take the average of working capital. The working capital for Tata steel for the two respective periods is -2946 and 9036

So, the following is the calculation of the Working Capital Turnover Ratio of Tata Steel.

Working capital turnover eg 5.1png

The result will be –

Working capital turnover eg 5.2png

The working capital ratio for Tata steel is 19.83

A higher ratio generally signals that the company is generating more revenue with its working capital. When the current assets are higher than the current liabilities, than the working capital will be a positive number. If the inventory level is lesser in comparison to the payables, than the working capital is low, which is in this case. That makes the working capital ratio very high. It is important to look at working capital ratio across ratio and also in comparison to the industry to make a good analysis of the working capital.

Example#3

Let us try to understand how to calculate the working capital turnover of Hindalco.

Example 3

Working capital, which is current assets minus current liabilities, is a balance sheet itemBalance Sheet ItemAssets such as cash, inventories, accounts receivable, investments, prepaid expenses, and fixed assets; liabilities such as long-term debt, short-term debt, Accounts payable, and so on are all included in the balance sheet.read more that is why it is important to take the average of working capital. The working capital for Hindalco for the two respective periods is 9634 and 9006. The below snapshot depicts the variables used to calculate this ratio.

Example 3.1

The result will be –

Example 3.2

The working capital ratio for Hindalco is 1.28.

A lower ratio generally signals that the company is not generating more revenue with its working capital. When the current assets are higher than the current liabilities, than the working capital will be a positive number. If the inventory level is lower in comparison to the payables, than the working capital is high, which is in this case. That makes the working capital very low. It is important to look at working capital ratio across ratio and also in comparison to the industry to make a good analysis of the formula.

Working Capital Turnover Ratio Calculator

You can use this calculator

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Working Capital Turnover Ratio Formula
 

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Relevance and Use

A higher working capital generally signals that the company is generating more revenue with its working capital. When the current assets are higher than the current liabilities, than the working capital will be a positive number. It is important to look at all the part that goes into the formula. It’s important to analyze whether the ratio is higher or lower due to a high level of inventory or the management of debtors or credits from whom the company buys raw materials or to whom they sell their finished goods. It is important to look at working capital ratio across ratio and also in comparison to the industry to make a good

You can download this Excel Template here – Working Capital Turnover Ratio Formula Excel Template

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