formula for accounts receivable turnover

#FORMULA FOR ACCOUNTS RECEIVABLE TURNOVER HOW TO#

This is why the ratio is considered an efficiency measure, as it measures the number of times that the business converted credit sales to cash. Therefore, holding average accounts receivable equal, the higher the credit sales, the higher the resulting ratio. Understanding the relationship between credit sales and average accounts receivable is important because businesses work to both increase sales and actively manage their accounts receivable. In this example, receivables were converted to cash four times throughout the period. A simple example demonstrates this relationship:Īccounts Receivable Turnover = 100,000 / 25,000 = 4.0 Holding net credit sales equal, as average accounts receivable decreases, the resulting ratio is larger. Net credit sales for the period are divided by average accounts receivable for the same period, so the end result of the formula is the number of times the business has converted its credit sales to cash. Earlier we mentioned that the higher the ratio the better.īy examining the components of the formula, we can see why.

When calculating the accounts receivable turnover ratio. Therefore, it is imperative that business leaders work to actively convert these balances into cash. The amounts due from customers for services and goods rendered are represented on the balance sheet as accounts receivable. The timing differences between when revenue is generated and received create a balance due from customers.

#FORMULA FOR ACCOUNTS RECEIVABLE TURNOVER HOW TO#

How To Interpret The Accounts Receivable Turnover RatioĪccounts receivable is the result of the accrual method of accounting, which requires a business to recognize revenue and expenses in the period they were incurred, not necessarily received. The simplest way to calculate average accounts receivable would be to sum the beginning and ending accounts receivable balances and divide by two. The way it does this is by establishing a period of time for average accounts receivable and net credit sales.įor example, if a business is calculating its accounts receivable turnover for a 90-day period, it would take the net credit sales over the 90-day period and divide it by the average accounts receivable balance for the period. The formula for calculating accounts receivable is:ĪR Turnover Ratio = Net Credit Sales ÷ Average Accounts ReceivableĮarlier we mentioned that the accounts receivable turnover ratio takes into account time. How To Calculate The Accounts Receivable Turnover Ratio This makes the ratio intuitively easy to understand when comparing multiple companies across the same industry. In general, as a business becomes more efficient at converting credit sales to cash the accounts receivable turnover ratio is higher. One of the benefits of ratio analysis is that it allows analysts to compare multiple companies across the same sector and industry. The ratio is also a measurement of how long it takes a business to convert credit sales to cash over a given period of time. At its core, the ratio tells us how many times a business converted its receivables to cash over a period of time. The end result is a ratio that quantifies how effective a business is at collecting its receivables. The accounts receivable turnover ratio is a calculation that compares the net credit sales over a period of time to the average accounts receivable balance for the same period. What Is The Accounts Receivable Turnover Ratio? In this post we will cover what the accounts receivable turnover ratio is, how to calculate accounts receivable turnover, and how to interpret the results. It is often used to compare multiple companies across the same industry or sector to identify which ones are best at converting customer credit to cash.īecause cash is so important, both corporate and investment finance professionals monitor accounts receivable turnover regularly to identify if a business faces potential liquidity or solvency issues. The accounts receivable turnover ratio is an important efficiency metric used by management and investors to understand how many times a business converts its receivables to cash over a period of time.

Formula for accounts receivable turnover