This chapter covers these topics:
- Determination of how ratio analysis is used in understanding working capital.
- Appreciation of the calculation of the liquidity, activity, and profitability utilization ratios.
- Understanding of such other metrics as the statement of cash flows and the cash conversion cycle.
- Consideration of the advantages and disadvantages of benchmarking of working capital.
- Clarification of the general issues in using ratios and other metrics in managing working capital.
RATIO ANALYSIS AND OTHER METRICS are used to provide a comparative basis for a company against its industry and its experience in previous years. We use plastics manufacturing as the industry comparison, although the reader should understand that each industry is unique. For example, companies that manufacture men's clothing experience a very long receivable cycle, often six months, while grocery stores and supermarkets are expected to pay their suppliers for certain food products in about one week.
We note certain metrics that present difficulties in finding appropriate industry comparisons. Toward the end of this chapter we will review some of the problems in using metrics to establish performance effectiveness.
The various accounts on financial statements (the balance sheet and the income statement) can be used to provide critical information about a company to financial managers, bankers, investors and other interested ...