Step 2: Using assets to generate revenue
Management then needs to determine how to allocate its capital across assets. For example, planning the level of working capital and investment in fixed assets, as well as how much cash it needs to hold for operational purposes. These decisions will have a bearing on the revenues of the company. The company needs to allocate capital toward either manufacturing or purchase of inventories which can then be sold for revenue. At the same time, investments into fixed assets is also needed for longer term growth. The company may also allocate assets to restructuring initiatives to improve the long term efficiency of the company.
The asset turnover ratio of “revenue over assets” depicts the efficiency with which the company is using its assets to generate revenue.
Step 3: From revenues to net income
This step is concerned with essentially the net profit margin – How much of the revenue goes towards the company’s value after considering costs of sales, operational expenses and overheads, and costs of debt. This amount is the net income.
It also involves marketing decisions, as to how much premium can the company ask from its consumers, based on how it market its products or services.