Introduction to Accounting Preparing for a User’s Perspective Compute and understand the Accounts Receivable Turnover ratio Debits and Credits Trainer By Kevin C. Kimball, CPA with support from www.canvas.net Free Jan. 2014 Available on the Google Play Store

Management Effective Accounts Receivable turnover ratio indicates how: Efficient If we don’t collect cash soon, we can’t pay our suppliers. Let’s approve him for $25 K in credit. Credit approval Purchase today Payment later Management

< --------------- Within One Month --------------- > Day 30 Sales Invoice Payment terms: net 30 $100 Credit Sale $100 Cash Receipt Day 1 < --------------- Within One Month --------------- > Day 30 Collect average AR balance every month? AR will “turnover” about 12 times per year

Days to collect Collection period Days in receivables AR turnover Days to collect Collection period AR turnover Days in receivables

ABC Tech Co. DEF Tech Co. AR turnover = 10 AR turnover = 20 (365 days / 10 AR turnover) (365 days / 20 AR turnover) = collect in 36.5 days = collect in 18.3 days More liquid

We aren’t managing our credit and collections very well AR turnover Collection period January credit sale made March invoice finally sent Customers won’t pay on our error-filled invoices We aren’t managing our credit and collections very well We give credit to everyone Why? Our credit sales are fake Etc.

AR turnover Collection period Overly aggressive collection efforts Cash only sales Too short? We might be over-managing our credit and collections Why? Credit only to the best

Effective and efficient credit and collection processes and procedures Too strict? Effective and efficient credit and collection processes and procedures Not strict enough?

Accounts Receivable Turnover Net Credit Sales AR Turnover = Average Accounts Receivable Beg. AR + End. AR Average AR = 2

+ Net Credit Sales Credit sales - Credit sales returns and allowances - Credit sales discounts = Net sales = Net credit sales + Net credit sales Net cash sales

Average Accounts Receivable ABC Co. Balance Sheet as of 12/31/X1 Assets Cash $ 335 Accounts Receivable 2,000 Etc. ABC Co. Balance Sheet as of 12/31/X2 Assets Cash $1,200 Accounts Receivable 600 Etc. $2,000 Average $1,300 $600 Beg. AR $2,000 + End. AR $600 Average Accounts Receivable $1,300 = 2

Accounts Receivable Turnover Net Credit Sales $1,200 AR Turnover 15 = Average Accounts Receivable $80 Beg. AR $100 + End. AR $60 Average AR $80 = 2

AR Collection Period, Days in Receivables, Average Days to Collect 365 365 days per year AR Collection Period = 24.3 days AR Turnover Ratio of 15 Industry’s average days to collect Company A’s average days to collect $80 Credit Sale $80 Cash Receipt $80 Cash Receipt Day 1 Day 24.3 Day 27

AR Collection Period (days) AR Turnover Ratio AR Collection Period (days) Net Credit Sales 365 days per year Average AR AR Turnover Ratio If you know 3 out of the four variables, you can solve for the fourth variable. AR Turnover Ratio 18.25 AR Collection Period 20 days = = Net Credit Sales $100 M 365 days per year Average AR ????? $5.48 M AR Turnover Ratio 18.25

AR Collection Period (in days) AR Turnover Ratio Year X1 8.2 Year X2 12.1 Year X3 13.3 Year X4 14.8 Year X5 15.1 Year X6 15.9 AR Collection Period (in days) Year X1 44.5 Year X2 30.2 Year X3 27.4 Year X4 24.7 Year X5 24.2 Year X6 23.0

What can we do to improve? Company A Industry AR turnover = 8.1 AR turnover = 15 (365 days / 8.1 AR turnover) (365 days / 15 AR turnover) = collect in 45.1 days = collect in 24.3 days What can we do to improve?

Summary Be able to define and compute: AR turnover ratio and AR collection period Use the two ratios to assess management as compared to: its own past its industry

Introduction to Accounting Preparing for a User’s Perspective Compute and understand the Accounts Receivable Turnover ratio Debits and Credits Trainer By Kevin C. Kimball, CPA with support from www.canvas.net Free Jan. 2014 Available on the Google Play Store