Company Working Capital Metrics

Lesson: Company Working Capital Metrics

In this lesson, Nick Palazzolo, CPA, zeros in on how to gauge a company's operational efficiency through the lens of working capital metrics. He navigates through key indicators such as Return on Equity (ROE), current ratio, accounts receivable turnover, cash conversion cycle, and growth rate, illustrating their significance and what they reveal about a company's financial health in comparison to industry benchmarks. Particular emphasis is placed on understanding whether higher or lower values of these metrics are desirable and how it reflects on a company's performance and potential operational issues. Beyond just identifying these metrics, Nick ensures that there's clarity on their interrelationships and their roles in assessing and contrasting company performance within the business environment.

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Instructor: Nick Palazzolo

Nick Palazzolo is head instructor of ExamPrep.ai CPA Review. Nick's teaching style is engaging & upbeat, combining practical Big 4 tax & assurance expertise with years of 1-on-1 coaching. His lessons are concise and emphasize what you need to know to pass. Whether you're a recent grad or working full-time, we’re confident you can conquer your CPA exams with Nick’s review.

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Taking a look here, we can use our ratios to compare against another company or the industry as a whole. We want to understand if it's better or worse to have a higher or lower metric? Now, this isn't all of them, this is just a couple, some more common ones and we talked about a good amount of them as we went through the examples.

For example, the return on equity (ROE) shows that we have a lower one than the industry and this doesn't necessarily mean lower or higher, this just means better or worse? Well, it's better to have a higher ROE, right? We're having more net income per hour equity. Current ratio, it's better to have a higher current ratio. This takes into account, remember, our current assets and current liabilities. Same with accounts receivable turnover.

This is dictating that we generally convert our AR to cash about 12.5 times per year. So it's nice to see that we are beating out the industry in that sense. Cash conversion cycle, even though we have a higher one than the industry, that's not actually good because that means that the industry converts its operations to cash more efficiently than we do, right? That's what we're seeing there in this example. And growth rate, it looks like we are actually growing slower than the industry.

So not ideal. Hopefully we will do better than the industry in the future. But for now, we are not, and again, the cash conversion cycle could be a sign of operational issues, lack of demand, declining market, whatever it may be. So take a look, get familiar with the relationships between the different ratios. Are you doing better or worse?

As I noted here, for most formulas and metrics in BEC, we can compare how our

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