How to Calculate Ar Turnover

Accounts Receivable Turnover Calculator

Use this calculator to determine your company's Accounts Receivable Turnover ratio and Days Sales Outstanding (DSO).

Calculation Results:

Average Accounts Receivable:

Accounts Receivable Turnover:

Days Sales Outstanding (DSO):

Understanding Accounts Receivable Turnover: A Key Financial Metric

The Accounts Receivable (AR) Turnover ratio is a crucial financial metric that measures how efficiently a company collects its credit sales. In simpler terms, it tells you how many times a company collects its average accounts receivable balance during a specific period, typically a year. A higher turnover ratio generally indicates that a company is efficient in collecting its debts, while a lower ratio might suggest issues with credit policies or collection efforts.

Why is AR Turnover Important?

• Liquidity Assessment: It helps assess a company's short-term liquidity. A company that collects its receivables quickly has more cash on hand to meet its obligations.
• Credit Policy Evaluation: It provides insights into the effectiveness of a company's credit policies. If the turnover is too low, the credit terms might be too lenient, or collection efforts might be weak.
• Operational Efficiency: It reflects the efficiency of the sales and collection departments.
• Comparison: It allows for comparison with industry averages and competitors to benchmark performance.

The Formula for Accounts Receivable Turnover

The formula for calculating Accounts Receivable Turnover is:

AR Turnover = Net Credit Sales / Average Accounts Receivable

Let's break down each component:

• Net Credit Sales: This refers to the total sales made on credit during a specific period, minus any sales returns and allowances. It's important to use only credit sales, as cash sales do not generate accounts receivable.
• Average Accounts Receivable: This is the average balance of accounts receivable over the same period. It is calculated by adding the beginning accounts receivable balance to the ending accounts receivable balance and dividing by two.
  Average Accounts Receivable = (Beginning Accounts Receivable + Ending Accounts Receivable) / 2

What is Days Sales Outstanding (DSO)?

Closely related to AR Turnover is the Days Sales Outstanding (DSO), also known as the average collection period. This metric indicates the average number of days it takes for a company to collect its accounts receivable. It's calculated as:

Days Sales Outstanding (DSO) = 365 / AR Turnover

A lower DSO is generally better, as it means the company is collecting its cash faster.

How to Use the Calculator

Our Accounts Receivable Turnover Calculator simplifies this process for you:

1. Net Credit Sales for the Period: Enter the total amount of credit sales for the period you are analyzing (e.g., a fiscal year), after deducting any returns or allowances.
2. Beginning Accounts Receivable: Input the accounts receivable balance at the start of the period.
3. Ending Accounts Receivable: Input the accounts receivable balance at the end of the period.
4. Click "Calculate AR Turnover" to instantly see your AR Turnover ratio and Days Sales Outstanding.

Interpreting Your Results

• High AR Turnover: A high ratio (e.g., 10-12 times or more) generally indicates efficient credit management and collection practices. It means customers are paying their debts quickly, leading to better cash flow. However, an excessively high turnover might suggest overly strict credit policies that could deter potential customers.
• Low AR Turnover: A low ratio (e.g., 4-6 times or less) could signal problems. It might mean the company has lenient credit terms, ineffective collection efforts, or customers who are struggling to pay. This can lead to cash flow shortages and increased risk of bad debt.
• Days Sales Outstanding (DSO): This number tells you, on average, how many days it takes to convert a credit sale into cash. If your DSO is significantly higher than your standard credit terms (e.g., 30 days for "net 30" terms), it indicates collection issues.

Example Calculation

Let's say a company has the following financial data for the year:

• Net Credit Sales: $500,000
• Beginning Accounts Receivable: $40,000
• Ending Accounts Receivable: $60,000

Using the calculator:

1. Average Accounts Receivable: ($40,000 + $60,000) / 2 = $50,000
2. AR Turnover: $500,000 / $50,000 = 10 times
3. Days Sales Outstanding (DSO): 365 / 10 = 36.5 days

This means the company collects its average accounts receivable 10 times a year, and it takes approximately 36.5 days on average to collect a credit sale.

Limitations of AR Turnover

While valuable, the AR Turnover ratio has some limitations:

• Seasonal Businesses: For businesses with significant seasonal fluctuations, the average AR might not accurately represent the true average throughout the year.
• Credit vs. Cash Sales: If a company has a mix of cash and credit sales, using total sales instead of just net credit sales will distort the ratio.
• Industry Differences: What constitutes a "good" turnover ratio varies significantly by industry. It's essential to compare against industry benchmarks.
• One-Time Events: A large, unusual sale or a major collection effort can temporarily skew the ratio.

By regularly monitoring your Accounts Receivable Turnover and Days Sales Outstanding, you can gain valuable insights into your company's financial health and make informed decisions to optimize your credit and collection strategies.