Accounts Receivable Turnover Formula
Accounts Receivable Turnover =
Net Credit Sales / Average Account Receivables
**The accounts receivable (also referred to as A/R) is listend on the balance sheet in the assets section and it is based on the receivable value at the beginning of a period and end value of a period. Add the beginning and end, then divide by 2 to calculate the average. For example, (A/R as of Jan 1 + A/R as of Dec 31) ÷ 2.
The Accounts Receivable Turnover Ratio is calculated with net credit card sales and the average accounts receivable; note that the time periods must be the same. Divide net credit sales by average accounts receivable.
Calculating the Accounts Receivable Turnover
It's important to note that a business can operate on their own fiscal year, which may not be the same as a calendar year. A calendar year would be Jan 1 - Dec 31, whereas a fiscal year may be April 1 - Mar 31. A company's fical calendar is determined by the company and it is used for reporting their accounting status and for how they handle taxation. For the purposes of the example below we assume the business operates on a calendar year (also referred to as CY).
ShoeBurger Corp had $400,000 in net credit sales for the previous calendar year (CY). On January 1 of the previous year the business reflected $70,000 in accounts receivable on the balance sheet and on December 31 (for the same calendar year) ShoeBurger Corp had $57,000 accounts receivable. Based on this information, we can calculate the accounts receivable turnover ratio for the previous accounting period.
- Step 1. Calculate Average Accounts Receivable
- Step 2. Calculate Accounts Receivable Turnover
($70,000 + $57,000) / 2 = $63,500
$400,000 / $63,500 = 6.2992 (or rounded to 6.3)
Given this information, Shoeburger Corp has an A/R Turnover of 6.3, this means that the business, on average, collects their receivables 6.3 times per year. To convert this to the average number of days it takes the company to collect payment we would divide the number of days in a year by the turnover; 365/6.3 = 57.93 days. This means on average it takes the business 58 days to collect (receive) payment on credit issued.
While it is important to understand industry averages when taking this value into consideration, as each industry has their own "norm's," many industries have N30 terms (a 30 day payment policy). If we were to use an industry norm, or average, of maintaining a 30 day credit payment policy, the example above would be viewed as unacceptable. Based on the example above, customers are taking almost 60 days to pay - two times longer than the policy!
This would indicate that ShoeBurger is not doing a very good job of enforcing the policy and ensuring collection of payments. Alternatively, it could mean that the company isn't doing a very good job in selection who they issue credit to. The company would want to evaluate their collection process and their credit issuing process. It is also possible that maybe only one or two businesses hold a majority of the credit, and they are continually late, so ShoeBurger may need to consider breaking their relationship with the customer, or implementing/enforcing more aggressive terms.
What is A/R Turnover Ratio?
The A/R Turnover Ratio is used in business to evaluate how well a business chooses their customers (who they extend credit to) and how well the business collects on debts (accounts receivable). A high ratio is generally a good sign and can mean the business is good at collecting debt; this could also mean that sales are primarily from a cash basis, so be aware of this when evaluating this metric. A high ratio can also mean the business has a strict policy on credit, which could be inhibiting potential sales, as other businesses don't want to do business with the company as a result of the strict terms on credit sales. In short, this ratio measures how efficient, and effective, a business utilizes its assets.
Accounts Receivable Turnover Ratio Calculator
**Enter values without commas.