The franchisor needs to evaluate the headquarters' organization and performance. This is done by the development of operating ratios. They are designed to help the franchisor operate the business as efficiently as possible.

Average Inventory Turnover The franchisor's average inventory turnover ratio is a measurement of the number of times its average inventory is sold out, or turned over, during the specific accounting period. This ratio indicates to the franchisor if the firm's inventory is being managed properly and also whether the business inventory is under stocked, overstocked, or obsolete. The average inventory turnover ratio is calculated as follows:

average inventory turnover ratio = costs of goods sold / average inventory

Many franchisors have very little inventory so therefore this ratio does not have that strong a value. However, the franchisees may find this ratio to be highly important. This ratio will explain to the franchisor or franchisee how fast the merchandise is moving through the business. A high or low inventory ratio is dependent upon the industry and the kind of business that you have.

The Average Collection Period The franchisor's average collection period ratio is the average number of days that it takes to collect accounts receivable. The average receivables turnover is determined by first calculating the receivables turnover which is calculated as follows:

receivables turnover = credit sales (or net sales) / accounts receivable

This ratio indicates the number of times the franchisor's accounts and those receivables turnover during the accounting period. The higher the firm's receivables turnover ratio is the shorter the time lag will be between the sale and cash collection. From this we can calculate the average collection period ratio as follows:

average collection period ratio = days in accounting period / receivables turnover

The higher the franchisor or franchisee's average collection period ratio is the greater the chance of bad debt or loss of account. This ratio is generally most useful in comparing franchises with an industry average. 

Rule of thumb: The franchise average collection period ratio should be no more than one-third greater than its collection terms. For example, if the company credit terms are net thirty, then its average collection period ratio should be no more than forty-five days. Any ratio greater than forty-five days indicates poor collection procedures.

Average Payable Period The average payable period simply indicates the average number of days that a company takes to pay its accounts payable. This is measured in days. To compute this ratio, first calculate the payables turnover ratio as follows:

payables turnover = purchases / accounts payable

To find then the average payable period, calculate as follows:

Average payable period = days in accounting period /payables turnover

One of the reasons why this ratio is developed is to compare against the credit terms offered by suppliers. The franchisor may use this to compare suppliers and their charges to the franchisors and/or franchisees. If this ratio is lower than the vendor's credit terms, it may be a sign that the franchisor is not using their cash position most effectively.

Net Sales to Total Assets The franchisors' net sales to total assets ratio (also referred to as total assets turnover ratio) is a general measure of the franchisor's ability to generate sales in relations to assets. This is very important for the franchisor and describes how productively the firm is using assets to produce sales revenues. The total assets turnover ratio is calculated as follows:

total assets turnover ratio = net sales / net total assets

Net total sales is the sum of all the firm's assets, cash, inventory, land, building, equipment, tools, everything owned, less depreciation. This ratio is meaningful when compared with similar firms or compared with the franchisor's organization over a period of time.

Net Sales to Working Capital This ratio indicates how many dollars in sales the business makes for every dollar of working capital (working capital = current assets - current liabilities). This ratio is also called the turnover of working capital ratio and is calculated as follows:

net sales to working capital ratio = net sales / (current assets - current liabilities)

This ratio tells the franchisor how effectively working capital is being used to generate sales. An excessively low net sales to working capital ratio shows that the franchisor is not employing working capital efficiently or profitably.