Assessing your AR business performance is critical. Even though there are several metrics you can keep track of to do this, we have selected the most important ones that will help you clearly understand how effective your AR operation is.
Days Sales Outstanding (DSO)
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) x Number of Days Over the Credit Sales
Average Days Delinquent (ADD)
As stated in the name, it calculates the average number of days after the due date that an invoice takes to get paid and provides insight on how effective your AR operation is. Both DSO and ADD should be compared with one another to understand the full picture. If both metrics are increasing or decreasing, it means the collections processes drive either improvement or worsening of the AR operation's performance. On the contrary, if they go in opposite directions, it probably means a shift in credit terms or sales cycles.
Formula: ADD = DSO (Days Sales Outstanding) – BDSO (Best possible Days Sales Outstanding)
AR Turnover Ratio
The AR turnover ratio measures the number of times your business collects your average AR in a year. It can tell you how effectively your business is handling credit terms and collecting outstanding balances. The higher the ratio, the better, but be careful not to compare yourself with non-competitors - there are many reasons why ratios can vary among different industries. Forecasting cash flow, evaluating your credit policy, understanding easiness of payments from customers, and assessing your collections methods' effectiveness are some of the benefits of using this metric.
Formula: AR Turnover Ratio = Net Credit Sales / Average AR
Collection Effectiveness Index (CEI)
As opposed to DSO, CEI is not a metric of time but a percentage value measuring the overall quality and effectiveness of your collections processes. It will compare the amount of money that was owed and how much of that was collected over a period of time. The closer the percentage is to 100%, the stronger your collections processes are.
Formula: CEI = ((Beginning Receivables + Monthly Credit Sales – Ending Total Receivables) / (Beginning Receivables + Monthly Credit Sales – Ending Current Receivables)) x 100
The percent past due represents how much of the business or customers' total receivables are overdue at any given time. It is a metric that will help you understand your business's current situation and, on an ongoing basis, track the performance of your accounts receivable team. At a customer level, filter the customers by highest receivables amount, and then identify which of them has the highest percentage past due – this is an efficient way to tackle the collections issues.
Formula: Percentage Overdue = Total Amount Overdue / Total Receivables
We recommend you take note of all these metrics and review them on a weekly or monthly basis. It feels time-consuming, but will allow you to catch problems early on and truly understand any issues in your AR team or collections process.
Alternatively, you can sign up to YallaCollect for free today and let the platform calculate everything for you! Sign up below to schedule a no-obligations demo today!