The second basic type of financial ratio is the activity ratio. Activity ratios indicate how well a company employs its assets. Ineffective utilization of assets results in the need for more finance, unnecessary interest costs, and a correspondingly lower return on capital employed. Furthermore, low activity ratios or a deterioration in the activity ratios may indicate uncollectible accounts receivables or obsolete inventory or equipment. Total asset turnover measures the company's effectiveness in utilizing its total assets and is calculated by dividing total assets into sales: Net sales Total assets 1. Total asset turnover for Magnetronics in 1999 can be calculated by dividing into $- times in 1995 to ' The turnover improved/deteriorated from times in 1999 It is useful to examine the turnover ratios for each type of asset, as the use of total assets may hide important problems in one of the specific asset categories. One impor tant category is accounts receivables. The average collection period measures the num- ber of days that the company must wait on average between the time of sale and the time when it is paid. The average collection period is calculated in two steps. First, di- vide annual credit sales by 365 days to determine average sales per day: Net credit sales 365 days Then, divide the accounts receivable by average sales per day to determine the number of days of sales that are still unpaid: Accounts receivable Credit sales per day 2. Magnetronics had $ 1999. Its average sales per day were $ average collection period was deterioration from the average collection period of invested in accounts receivables at year-end during 1999 and its days. This represented an improvement/ days in 1995 A third activity ratio is the inventory turnover ratio, which indicates the effective- ness with which the company is employing inventory. Since inventory is recorded on the balance sheet at cost (not at its sales value), it is advisable to use cost of goods sold as the measure of activity. The inventory turnover figure is calculated by dividing cost of goods sold by inventory: Cost of goods sold Inventory 3. Magnetronics apparently needed $ of inventory at year-end 1999 to support its operations during 1999. Its activity during 1999 as measured by the cost of goods sold was $ It therefore had an inventory turnover of times. This represented an improvement/deterioration from imes in 1995 A fourth and final activity ratio is the fixed asset turnover ratio, which measures the effectiveness of the company in utilizing its plant and equipment: Net sales Net fixed assets