AR Turnover Ratio

Accounts Receivable Turnover Ratio is a KPI used to ascertain overall health of a company both internally and externally. Standard Financial Reports i.e. Balance Sheet & Income Statement of a company provide data necessary o calculate AR Turnover Ratio. Internally, it is of high interest to Senior Management team due to its high degree of impact in cash flow.

The value of AR Turnover Ratio indicates the number of times receivables was collected in full for the time period under consideration. AR Turnover Ratio is calculated for long time periods, either Yearly or Quarterly. Small time frames such as Monthly or Weekly will not yield the right picture due to lack of data volume. Two key measures are needed to derive this KPI

AR_TurnoverRatio

  • Net Credit Sales for a given period can be inferred from Income Statement
  • Average Accounts Receivable is derived from Balance sheet for two consecutive time periods and calculated

The example below has taken Microsoft Inc (MSFT) data for illustration purposes. MSFT_IS_ARTurnoverRatioPeriod under scrutiny is for the whole year that ended Jun-2016.  (Note: For sake of simplicity and illustration purposes, Revenue and Sales are assumed to be the same, ideally sales and revenue are different and Sales figures are not standard component of a P&L Statement). The numerator in this example is $82.5b.

In order to calculate the denominator, the average of Net Receivables for MSFT_BS_ARTurnoverRatioJun-2016 ($18.2b) and Jun-2015 ($17.9b). Average Accounts Receivable for the time period under scrutiny is 18.05 (i.e. 18.2 + 17.9 / 2) in denominator. Standard average cannot be computed because Net Receivables is a semi-additive fact.

With above two measures, the AR Turnover Ratio is computed as 4.57 for the year starting from 1-Jul-2015 to 30-Jun-2016. It implies that Microsoft was able to fully collect all receivables 4.57 times in the year. An alternative interpretation shows that MSFT took around 80 (365/4.57) days in the year to complete one cycle of collecting all receivables.

A KPI similar in meaning with respect to AR Turnover Ratio is AR Average Realization Time. Both KPI’s share some characteristics, but are not synonymous because source data as well as calculation methodology vary largely. One cannot be seen as replacement for another because the values will be different for the same time period.