Accounts Receivable Turnover Ratio

What is the Accounts Receivable Turnover Ratio?

The Accounts Receivable Turnover Ratio (AR Turnover) measures how efficiently a company collects payments from its customers. It shows how many times, on average, receivables are converted into cash during a specific period.

Key Takeaways

• Indicates efficiency of credit and collection policies.
• A higher ratio means faster collection; a lower ratio signals delayed payments.
• Important for cash flow and working capital management.
• Used by analysts to assess liquidity and credit risk.
• Directly linked to Days Sales Outstanding (DSO).

Understanding Accounts Receivable Turnover Ratio

The AR Turnover Ratio helps assess how effectively a company converts credit sales into cash. It’s calculated by dividing net credit sales (total sales on credit minus returns or allowances) by the average accounts receivable balance.

A company with a high turnover ratio efficiently manages credit terms and collection efforts. Conversely, a low ratio could indicate weak credit control or customer payment issues.

Formula (If Applicable)

Accounts Receivable Turnover = Net Credit Sales / Average Accounts Receivable
Average Accounts Receivable = (Beginning AR + Ending AR) / 2

Example:
If annual credit sales are $1,200,000, beginning AR is $100,000, and ending AR is $140,000:
Average AR = (100,000 + 140,000) / 2 = 120,000
AR Turnover = 1,200,000 / 120,000 = 10 times
This means the company collects its receivables 10 times a year.

Real-World Example

A retail distributor records an AR turnover ratio of 12, suggesting strong collection efficiency. Competitors in the same industry average 8, meaning this company collects payments faster and manages cash better.

Public companies like Amazon and Walmart report their AR turnover in financial statements as an indicator of operational liquidity.

Importance in Business or Economics

The AR Turnover Ratio is vital for:

• Evaluating liquidity and cash management.
• Monitoring credit policies and collection effectiveness.
• Identifying cash flow bottlenecks.
• Comparing efficiency across time or against competitors.

In broader economics, efficient receivables turnover enhances business credit health and overall economic liquidity.

Types or Variations

• Gross vs. Net Turnover: Uses total or adjusted credit sales.
• Monthly vs. Annual Analysis: Short-term vs. long-term efficiency tracking.
• Industry-Specific Benchmarks: Retail vs. manufacturing vs. B2B sectors.

Related Terms

• Days Sales Outstanding (DSO)
• Accounts Receivable Aging
• Cash Conversion Cycle (CCC)
• Liquidity Ratios
• Working Capital Management

Sources and Further Reading

• IFRS – IAS 1: Presentation of Financial Statements.
• FASB – ASC 310: Receivables.
• Investopedia – Accounts Receivable Turnover Ratio.
• Corporate Finance Institute (CFI) – Financial Ratios for Liquidity Analysis.

Quick Reference

• Formula: Net Credit Sales ÷ Average Accounts Receivable.
• High Ratio: Faster collection, strong liquidity.
• Low Ratio: Slow collection, potential credit risk.
• Tool: Used with DSO for performance analysis.
• Goal: Optimize receivables and cash flow.

Frequently Asked Questions (FAQs)