As a small business, you are probably keeping a dutiful eye on your accounts payable, which is smart. No one wants the expenses and penalties that can come from making late payments. But are you as observant when it comes to accounts receivable?
Your accounts receivable turnover rate is the yardstick for measuring your receivables cycle. The cycle begins when customers purchase your product or service and ends the customer pays you and the money clears in your account. What happens in between these two events is part of a collection process, and how efficient yours is will dictate the success or failure of your business.
For this reason, it’s worth examining your collection process and determining how effective it is. If you can speed this process up, you’ll have more money to grow the business and spend less time chasing delinquent accounts.
Your turnover rate will vary depending upon what industry you’re in. If you have very large clients, the turnover rate will be dependent on their payment terms (which are usually carved in stone). It may take you a lot longer to get paid, as well. Smaller businesses can often turnover payments faster, but that doesn’t mean they always have the money to do so.
Your accounts receivable turnover can be determined using a ratio of average accounts receivable for a period divided by the net credit sales for that same period. This ratio will offer you a better idea of how efficiently your business collects on debts owed toward credit is extended. A lower number is more desirable, as it shows higher efficiency.
Most companies are happier when providing services to the same customers who use products and services on a regular basis. This way, they can position themselves as a “critical vendor,” which may allow clients to pay you faster as they wish to remain on good terms with your organization.
Getting a grip on your account receivable and improving your processes will allow you to better manage your cash flow. By understanding how cash flows into your business, you will be in a better position to adequately plan for the necessary cash outflows for labor, supplies, fixed assets, and more. You’ll get a better sense of how to avoid trouble, and if you do run into a spot of it (which is inevitable), you’ll be able to plan better to get the business over any rough spots.
If you’re looking for ways to improve your receivables turnover rate, consult an accounting firm that can guide you through the process. DOAAR is a small business tax, bookkeeping, and consulting services firm, with an additional focus on its clients’ personal finances. Specializing in bookkeeping, controller, and CFO services, DOAAR’s offering spans daily accounting, month-end close, complex financial modeling, and oversight. From execution to analysis and strategy, DOAAR provides clients with a powerful and fully integrated back-office accounting solution. We have locations throughout California and the rest of the U.S. Visit our website for more information or to contact us.