What is it?

DSO stands for Days Sales Outstanding and is one of the most used metrics to assess AR performance. This metric has a direct impact on the business cash flow, which is closely tracked by business management, investors, and auditors.

Businesses use it to measure the effectiveness at which the AR team collects the business receivables by displaying the average number of days it takes to collect payments from customers. DSO measures how fast your company is collecting money from your customers, reflecting how efficient your operation is. Although the ideal DSO varies depending on the industry, the lower the DSO is, always better.

Formula: DSO = (AR / Total Credit Sales) * Number of Days Over the Credit Sales

Stay alert!

Even though DSO is one of the most common metrics used in AR, it is also one of the most misunderstood ones. As a metric, DSO does not consider some short-term factors that are not a reflection of how effective the collections processes used by the AR team are. These factors are:

  • It is sales oriented: As one of the DSO equation variables, sales performance and seasonality can drastically change your DSO even if your collection processes and team performance remain the same. Meaning, a variation in DSO is not always related to AR team performance.
  • Varies with credit policy: Variation of credit terms both for existing and new customers will also impact the DSO. ' Suppose your credit policy allows you to increase your customers' credit terms. In that case, this will immediately increase the DSO and once again, the collection processes won't be the reason for it.
Therefore, using DSO as the only metric to assess the AR team performance will paint a biased and problematic picture. It is advisable to analyze DSO and other key metrics such as ADD (Average Delinquent Days) and/or CEI (Collection Effectiveness Index) to have a full picture of your AR operation and make informed decisions.

What is the ideal DSO?

Calculating the ideal DSO is not a straightforward process. As explained above, several factors can make the DSO fluctuate, therefore it is important to always compare your DSO with a clear and relevant context. To achieve that, we provide two ways to get the ideal DSO:

  • Industry: The terms and conditions of businesses within the same industry are usually similar. Therefore, using the industry DSO as a benchmark is a good practice. If possible, comparing your DSO to your direct competitors will also be beneficial. That will give you further insights on how you are doing and ensure you are comparing like-for-like businesses.
  • Internal credit terms: The credit terms you give to your customers will define the ideal DSO. For example, if all customers have 30 days credit, then the ideal DSO would be 30.

Formula: Ideal DSO = (Current Receivables / Total Credit Terms) * Number of Days

To avoid outliers that can skew this result, it is advisable to use a weighted DSO. This way, if you have an account over 60 days that corresponds to a representative percentage of your receivables, it won't impact the final result.

Schedule a demo with YallaCollect and have ongoing access to track your DSO!