Define: Capital Turnover

Capital turnover refers to the measure of how efficiently a company utilises its capital to generate sales revenue. It is calculated by dividing the net sales by the average capital employed during a specific period.

Capital turnover is important because it helps assess the effectiveness of a company’s capital utilisation. It indicates how well a company is able to generate sales from its invested capital, which is crucial for profitability and growth.

The capital turnover ratio is calculated by dividing the net sales by the average capital employed. The formula is: capital turnover ratio = net sales / average capital employed.

A high capital turnover ratio suggests that a company is efficiently utilising its capital to generate sales. It indicates that the company is able to generate a significant amount of revenue relative to the capital invested, which is generally considered favourable.

A low capital turnover ratio indicates that a company is not effectively utilising its capital to generate sales. It suggests that the company may have excess capital tied up in unproductive assets or inefficient operations, which can negatively impact profitability.

A company can improve its capital turnover ratio by implementing strategies to increase sales revenue without significantly increasing capital investment. This can be achieved through measures such as improving operational efficiency, optimising inventory management, and enhancing marketing and sales efforts.

The capital turnover ratio and asset turnover ratio are similar in concept but differ in the components used for calculation. While the capital turnover ratio considers the net sales and average capital employed, the asset turnover ratio considers the net sales and average total assets.

Not necessarily. While a higher capital turnover ratio generally indicates efficient capital utilisation, it is important to consider industry norms and specific business circumstances. Some industries may naturally have lower capital turnover ratios due to the nature of their operations.

Comparing capital turnover ratios across different industries may not provide meaningful insights due to variations in business models, capital requirements, and industry-specific factors. It is generally more appropriate to compare companies within the same industry to assess their relative performance.