Page 137 - DMGT403_ACCOUNTING_FOR_MANAGERS

Accounting for Managers

Notes
Inventory Turnover & Average Days’ Inventory on Hand
An examination of trends in the inventory turnover and average days’ inventory on hand
ratios also reveal positive indicators of Ford’s liquidity position. Inventory turnover, a
function of cost of goods sold and inventories, has remained stable between 14.0 and 16.0
times from 1992-1995. The average ratio over these four years (15.1 times) is 40% higher
than that of 1991. The average days’ inventory on hand, a derivative of the inventory
turnover, has conversely decreased to stable level fluctuating between 23.5 and 26.0 days
in the years 1992-1995. The operating cycle of Ford Motor Company has decreased
significantly as the table below indicates.
1991 1992 1993 1994 1995
Days: 50.8 29.0 33.8 31.1 34.3

Profitability
Profit Margin
Profit margin, which is net income divided by net sales, is a measure of how many dollars
of net income is produced by each dollar of sales. Ford Motor Company had a substantial
4 year rise in profit margin. Using horizontal analysis, the profit margin increased 98%
from 1991 to 1992, 566% from 1992 to 1993 and then 79% from 1993 to 1994. Although the
profit margin from 1994 to 1995 decreased 26%, that is more than acceptable when you
look at the substantial increases in the past few years. In the first year, Ford had a profit
margin of -3.1%. That means for every dollar of sales, Ford lost $3.10. This is obviously not
a good position to be in. During 1991 and then carried over into 1992, it cost Ford more
money to make sales than it did when it recorded the income for those sales. They realized
at this time it was important for them to keep things such as selling and administrative
expenses lower, as well as the cost of sales, which included their production, manufacturing,
and warehousing costs. By following a plan more complex than I can describe here, Ford
steadily increased it’s sales while it lowered it’s expenses and it’s cost of sales. This directly
increased Ford’s profit margin at a substantial rate within the next three years.
Asset Turnover
Asset turnover involves Ford’s net sales divided by their average total assets. This ratio
demonstrates the efficiency of assets used in producing sales. A company like Ford Motor
Company has an enormous amount of assets. Computers to heavy equipment to buildings.
All of those assets, plus many more, are all taken into consideration when figuring asset
turnover. For example, Ford would like to know that if it decides to purchase 20 new
computer-aided engineering stations for a cost of about $2,400,000, they would like to see
a higher asset turnover to give them the proof that the investment is being used at
maximum efficiency. Ford’s asset turnover steadily increased in incremental amounts
between the years of 1991-1995, but on average it was about .43 for the entire 5 year period.
Using trend analysis to understand this ratio would give you a pretty good idea that the
asset turnover of Ford Motor Company is stable. Trend analysis would give you an index
number for 1992 of 100, while the index number for 1995 would be 112. These index
numbers would result in a slightly positive but relatively straight line across the page. As
a prospective investor this would probably cause you to investigate more deeply as to
why Ford can’t more efficiently use their assets to produce sales. As a current stockholder,
this trend over the past five years may give you some comfort because of the incremental
increases (at least it isn’t going down).

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