Definition: Accounts receivable turnover is used by business owners and finance professionals to calculate the average amount of money that a business collects from customers. This can also be referred to as average revenues, average expenses, or profit and loss. It is a key ratio used in financial statements because it shows how accurately a business uses its money.
Accounts Receivable turnover is one of the critical financial gathering measures that banks use to monitor an account’s liquidity and overall health.
Formula to calculate Accounts receivable turnover ratio
Accounts Receivable Turnover Ratio = Net Credit Sales / Average Accounts Receivable
- Net credit sales are when the bank or the credit card company takes payment for goods and services on credit. It is calculated as Net Credit Sales = Sales on credit – Sales Returns – Sales Allowances
- Average Accounts Receivable is the sum of starting and ending receivables monthly, quarterly, or annually, divided by two.
A high account receivable turnover rate indicates that the customer is under constant financial pressure, which is likely to make it much easier for them to take out new debt by using bad credit cards or getting short-changed on repayments.
High turnover can be caused by two main causes
(1) nonperforming requirements and
(2) outdated accounting standards.
A low account receivable turnover rate indicates that there is a reasonable level of control over recurring expenses and indicates a favorable credit profile for your account. Low credit receivable turnover is commonly due to insufficient and/or poorly implemented credit policies, inadequate collections and credit risk management capabilities of financial institutions, high bad debt levels, customer indifference, and a lack of sufficient legal measures to deal with that kind of problem.
There are two main approaches to manage accounts receivable turnover
- The first one is to keep control and build your resources to minimize the number of payments you make.
- The second one is to have your accounting department handle payments and payment issues on your behalf when necessary, but no more than once a week.
Accounts Receivable turnover can help companies decide to change loan methods, change the business structure or business focus, change product formats or business models. It is also essential when dealing with non-revenue generating activities like issuing cheques or paying employees.