A:

Since companies that sell consumer packaged goods are traditionally low-margin, high-volume businesses, the most important financial ratios used to evaluate companies in the consumer packaged goods industry are the activity ratios. In addition, to ensure the company is successful in the long term, solvency ratios should also be used to evaluate a consumer packaged goods company.

The consumer packaged goods industry is highly competitive due to high saturation and low consumer switching costs. Examples of consumer packaged goods are clothing, food and beverages, tobacco and household products.

Since there is high competition, consumer packaged goods companies often compete on price, driving their margins down and forcing them to sell a high amount of products. For companies with low margins and high sales, inventory and short-term activity become extremely important. Activity ratios should be the first types of ratios considered when looking at a consumer packaged goods company, including inventory turnover, days sales in inventory, accounts receivable turnover and average collection period.

These activity ratios are very important for consumer packaged goods companies because they have to move products quickly, and they want a high amount of inventory turnover and a low amount of days sales in inventory. A high level of inventory turnover and a low amount of days sales in inventory means a company is selling a lot of products and doesn't have unnecessary inventory on hand.

Since a company that operates in this space has low margins, it could run into cash flow issues, which creates a need for a high accounts receivable turnover and a low average collection period. This ensures a company is collecting money owed quickly and has a positive cash flow.

Solvency ratios such as the debt-to-equity and debt-to-assets ratios are a quick check to see if the company's day-to-day operations, measured by the activity ratios, result in long-term sustainability.

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