Accounts Receivable Turnover Is Calculated Using The Following Formula

Accounts receivable turnover measures how efficiently a company collects payments from its customers. It shows how many times a company collects its average accounts receivable balance during a period, typically a year. A higher turnover ratio indicates better cash flow and financial health.

What Is Accounts Receivable Turnover?

Accounts receivable turnover is a financial metric that measures how quickly a company collects payments from its customers. It's calculated by dividing the total credit sales by the average accounts receivable balance during a specific period, usually a year.

This ratio helps businesses understand their efficiency in collecting payments and managing working capital. A higher turnover ratio indicates that a company is more effective at converting its receivables into cash, which is generally considered positive for financial health.

Accounts receivable turnover is different from days sales outstanding (DSO), which measures the average number of days it takes to collect payments from customers.

How to Calculate Accounts Receivable Turnover

Calculating accounts receivable turnover involves these key steps:

Determine your total credit sales for the period (usually a year)
Calculate your average accounts receivable balance during the same period
Divide the total credit sales by the average accounts receivable balance

The result is your accounts receivable turnover ratio. A typical industry benchmark varies by sector, but a ratio of 5 or higher is generally considered good.

Accounts Receivable Turnover Formula

Accounts Receivable Turnover = Total Credit Sales / Average Accounts Receivable Balance

Where:

Total Credit Sales - The total amount of goods or services sold on credit during the period
Average Accounts Receivable Balance - The average amount of money owed to the company by customers during the period

The formula shows how many times a company collects its average receivables during the period. For example, a turnover ratio of 4 means the company collects its average receivables 4 times in a year.

Accounts Receivable Turnover Example

Let's look at an example to understand how to calculate accounts receivable turnover:

Month	Credit Sales	Accounts Receivable
January	$50,000	$20,000
February	$60,000	$25,000
March	$70,000	$30,000

To calculate the accounts receivable turnover for this 3-month period:

Total credit sales = $50,000 + $60,000 + $70,000 = $180,000
Average accounts receivable = ($20,000 + $25,000 + $30,000) / 3 = $25,000
Accounts receivable turnover = $180,000 / $25,000 = 7.2

This means the company collected its average receivables 7.2 times during the 3-month period.

How to Improve Accounts Receivable Turnover

Improving accounts receivable turnover involves several strategies:

Offer payment discounts - Encourage customers to pay early with discounts for prompt payments
Improve credit policies - Establish clear credit terms and limits to reduce bad debts
Enhance collection processes - Implement efficient follow-up procedures for overdue accounts
Strengthen customer relationships - Build trust with customers to encourage faster payments
Use technology - Implement accounting software to track receivables and automate reminders

By implementing these strategies, companies can improve their accounts receivable turnover and enhance their cash flow.

FAQ

What is a good accounts receivable turnover ratio?

A good accounts receivable turnover ratio varies by industry. Generally, a ratio of 5 or higher is considered good, while ratios below 3 may indicate inefficiencies in collections.

How does accounts receivable turnover relate to days sales outstanding?

Accounts receivable turnover and days sales outstanding (DSO) are related but measure different aspects of receivables management. Turnover measures how many times receivables are collected, while DSO measures the average number of days it takes to collect payments.

What factors can negatively affect accounts receivable turnover?

Factors that can negatively affect accounts receivable turnover include slow payment terms, poor credit policies, economic downturns, and inefficient collection processes.