Company Receivable Turnover Vs. the Industry Average
Financial ratios allow managers to evaluate targeted areas of company performance. Specifically, receivable turnover ratios can indicate how efficient a company is at collecting money owed from customers. To give context to your receivable ratio, compare it with similar companies in the same industry. When comparing ratios, make sure to gain a thorough understanding of other company accounting policies. Factors like year end date and inventory valuation can artificially inflate or decrease receivable ratios.
The receivable turnover ratio is calculated by dividing credit and receivable sales by average accounts receivable. Once you've calculated the turnover ratio, you can determine your average collection period by dividing the number of days in a period by the ratio. For example, consider a company with annual receivable sales of $5,000 and an average accounts receivable balance of $1,000. The company has a receivable turnover ratio of 5 (5,000/1,000) and an average collection period of 73 days (365/5). In general, the higher the turnover ratio, the better your company is at collecting cash. A lower collection period means customers are paying bills faster, which means your company has more cash on hand.
If your receivable ratio varies drastically from the industry average, your customer base is a possible culprit. Customers with cash flow problems may be juggling their bills and putting off their payments. If this is the case, review your credit terms on an individual basis. You can decrease credit terms for customers who have cash on hand to compensate for slower payments from problem clients.
Internal sales policies can also contribute to lower-than-average receivable turnover. If your deadbeat customers are getting first-class service and no pushback when placing orders, they'll have little reason to make good on their accounts. Interest payments and increased workload associated with collection efforts can quickly decrease your profit margin on late-paying customers. Although it can be a painful process, you may need to discontinue sales to the worst offenders until they pay down their debt.
Inconsistent internal collections is another culprit for a low receivable turnover ratio. Spending a day with collections employees can offer insight into inefficiencies in your collections system. Use software to set up automated courtesy reminders and free up time for agents to make more important phone contacts. Collections can be a difficult job, so make sure you reward strong performance and provide employee incentives to collect on accounts.