Chartered Financial Analyst (CFA) Level 1 Practice Exam

What do activity ratios measure in a company?

1. Profitability of investments

2. Ability to fulfill long-term obligations

3. Efficiency in day-to-day operations

4. Market valuation of assets

The correct answer is: Efficiency in day-to-day operations

Activity ratios are financial metrics that assess how efficiently a company utilizes its assets to generate revenue. These ratios indicate the effectiveness of a firm's operations and its ability to manage its resources well. By measuring the conversion of various types of assets into sales or revenue, activity ratios provide insights into the operational efficiency of a company. For example, the inventory turnover ratio helps assess how quickly a company sells and replaces its stock of goods, reflecting its efficiency in inventory management. Similarly, accounts receivable turnover evaluates how effectively the company collects payments from customers. These metrics are essential for understanding the day-to-day operational effectiveness and overall performance of the business. While other choices touch upon important aspects of a company's financial health—such as profitability, long-term obligations, and market valuation—they do not specifically relate to the efficiency of operational management that activity ratios are designed to measure.