9/5/2013
Introduction to Accounting
Preparing for a User’s Perspective
Compute and understand the
Accounts Receivable Turnover ratio
By Kevin C. Kimball, CPA
with support from
Debits and Credits Trainer
www.canvas.net
Free Jan. 2014
Available on the
Google Play Store
Accounts Receivable turnover ratio indicates how:
If we don’t
collect cash soon,
we can’t pay our
suppliers.
Effective
Efficient
Let’s approve
him for $25 K
in credit.
Credit approval
Purchase today
Payment later
Management
Sales Invoice
Payment terms: net 30
$100
Credit Sale
Day 1
$100
Cash Receipt
< --------------- Within One Month --------------- >
Day 30
Collect average AR balance every month? AR will “turnover” about 12 times per year
1
9/5/2013
ABC Tech Co.
AR turnover = 10
(365 days / 10 AR turnover)
= collect in 36.5 days
DEF Tech Co.
AR turnover = 20
(365 days / 20 AR turnover)
= collect in 18.3 days
More liquid
January credit sale made
March invoice finally sent
Customers won’t pay on our error-filled invoices
We give credit to everyone
Why?
We aren’t managing our
credit and collections
very well
Our credit sales are fake
Etc.
2
9/5/2013
Cash only sales
Overly aggressive
collection efforts
Too short?
We might be overmanaging our credit and
collections
Why?
Credit only
to the best
Accounts Receivable Turnover
Net Credit Sales
AR Turnover =
Average Accounts Receivable
Beg. AR + End. AR
Average AR
=
2
3
9/5/2013
Net Credit Sales
Credit sales
- Credit sales returns and allowances
- Credit sales discounts
= Net credit sales
= Net sales
Net credit sales
Net cash sales
Average Accounts Receivable
ABC Co.
Balance Sheet
as of 12/31/X1
$2,000
ABC Co.
Balance Sheet
as of 12/31/X2
Average $1,300 Assets
Cash
$ 335
Accounts Receivable 2,000
Etc.
$600
Assets
Cash
$1,200
Accounts Receivable 600
Etc.
Beg. AR $2,000
Average Accounts Receivable $1,300
+ End. AR $600
=
2
Accounts Receivable Turnover
Net Credit Sales $1,200
AR Turnover 15 =
Average Accounts Receivable $80
Beg. AR $100 + End. AR $60
Average AR $80
=
2
4
9/5/2013
AR Collection Period, Days in Receivables,
Average Days to Collect
365
365 days per year
AR Collection Period =
24.3 days
AR Turnover Ratio of 15
Industry’s average days to collect
Company A’s average days to collect
$80 Cash Receipt
Day 24.3
$80 Credit Sale
Day 1
$80 Cash Receipt
Day 27
AR Turnover Ratio
AR Collection Period (days)
Net Credit Sales
365 days per year
Average AR
AR Turnover Ratio
If you know 3 out of the four variables, you can solve for the fourth variable.
AR Turnover Ratio
18.25
AR Collection Period 20 days
=
=
Net Credit Sales $100 M
Average AR ?????
365 days per year
$5.48 M
AR Turnover Ratio
18.25
AR Turnover Ratio
Year X1
8.2
Year X2
12.1
Year X3
13.3
Year X4
14.8
Year X5
15.1
Year X6
15.9
AR Collection Period (in days)
Year X1
44.5
Year X2
30.2
Year X3
27.4
Year X4
24.7
Year X5
24.2
Year X6
23.0
5
9/5/2013
Company A
AR turnover = 8.1
Industry
AR turnover = 15
(365 days / 8.1 AR turnover)
= collect in 45.1 days
(365 days / 15 AR turnover)
= collect in 24.3 days
What can we
do to improve?
Summary
• Be able to define and compute:
– AR turnover ratio and AR collection period
• Use the two ratios to assess management as
compared to:
– its own past
– its industry
Introduction to Accounting
Preparing for a User’s Perspective
Compute and understand the
Accounts Receivable Turnover ratio
By Kevin C. Kimball, CPA
with support from
Debits and Credits Trainer
www.canvas.net
Free Jan. 2014
Available on the
Google Play Store
6