One of several measures used to assess operating performance, accounts receivable turnover also helps in appraising a company’s credit policy and its cash flow.
The number of times in each accounting period, typically a year, that a company converts credit sales into cash.
A high turnover figure is desirable because it indicates that a company collects revenues effectively, and that its customers pay bills promptly. A high figure also suggests that a company’s credit and collection policies are sound.
In addition, the measurement is a reasonably good indicator of cash flow, and of overall operating efficiency.
The formula for accounts receivable turnover is straightforward. Simply divide the average amount of receivables into annual credit sales:
Receivables turnover = Sales/Receivables
If, for example, a company’s sales are $4.5 million and its average receivables are $375,000, its receivables turnover is:
4,500,000/375,000 = 12
It is important to use the average amount of receivables over the period considered. Otherwise, receivables could be misleading for a company whose products are seasonal or are sold at irregular intervals.
The measurement is also helpful to a company that is designing or revising credit terms.
Accounts receivable turnover is among the measures that comprise asset utilization ratios, also called activity ratios.
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