Unfortunately, you’re also responsible for collecting these outstanding accounts receivable from your customers. This accounting term refers to the time customers take to pay their days receivables outstanding bills after being charged. Understanding your DSO can help you make better-informed decisions about who you’re doing business with. The accounts receivable software by HighRadius is an industry-trusted credit and collections platform. Powered by AI, you can seamlessly reduce DSO with collection software.

• Generally speaking, however, a lower ratio is more favorable because it means companies collect cash earlier from customers and can use this cash for other operations.
• I think there is a tendency (here’s the acrobatics) to use the next smaller unit when precision is necessary, for example “48 hours”.
• This would display a low DSO initially, but the lenient credit policy would ultimately result in faults or bad debts.
• Also, you can impose late payment fees to payment terms to make the payment terms effective and avert customers from defaulting on their due date.

Find total credit sales

Given that John was targeting a 30-day collection period, his DSO of 31 days is good for his business. John can remain confident that his accounts receivable process is in good shape. Offering rewards is more effective than penalizing late payers—just ensure payment terms are clearly stated on your invoices. Review your collections process to identify inefficiencies or areas for improvement.

Consider factors such as payment processing times, customer creditworthiness, and the efficiency of your invoicing and collections processes. Improving Days Sales in Accounts Receivable (DSO) has a significant impact on financial reporting and cash flow. By collecting payments faster, businesses can present more accurate financial statements, reduce the risk of bad debt, and validate the accuracy of their reported financial data. A lower DSO reflects efficient accounts receivable management and a healthier financial position. Tracking and improving Days Sales in Accounts Receivable (DSO) is essential for businesses to maintain liquidity and optimize cash flow.

How to reduce accounts receivable

• Your customers are the lifeline of your business, and to grow, you need to retain them.
• As a result, the company might have difficulty meeting its short-term obligations.
• In fact, with this understanding, you can find out more about the effectiveness of your accounts receivable processes, particularly credit and collections.

As a result, we have now seen a significant reduction in accounts receivable days outstanding. Understanding and optimizing days Sales in accounts receivable (DSO) is essential for improving your cash flow and maintaining financial stability. By automating AR processes, businesses can reduce DSO, streamline collections, and focus on growth. Don’t let overdue invoices disrupt your finances—discover how InvoiceSherpa can help you optimize DSO and enhance your financial performance today. Optimizing your DSO is essential for improving cash flow and maintaining strong financial health.

For example, a DSO of 45 days may not be a problem for a large-scale business, but it is terrible for a small-scale business. Depending on your industry, that might be a low DSO or a higher DSO than average. With time, you’ll get to know what your overall average DSO is and be able to spot any variation. When the cash your clients owe your business sits in their bank accounts, it negatively affects your finances in a few ways.

The Average Collection Period (ACP) is another metric that evaluates how long it takes a company to collect its receivables. Like DSO, ACP gives insight into the efficiency of a company’s collections process, but there are some nuances that set it apart. ACP typically focuses on how quickly accounts receivable are turned over, which is closely related to the Accounts Receivable Turnover Ratio. Bad debt occurs when customers can’t pay their dues, and this ratio measures the amount of money a company needs to write off as a bad debt expense compared to its net sales. If this ratio increases over time, it suggests weak credit policies and management.

Remember, reducing past-due receivables, minimizing bad debt, and enhancing cash inflow depend on accurate interpretation. It’s important to note that we consider only credit sales while calculating the DSO. Cash sales are said to have a DSO of 0 because they don’t affect the account receivables or the time taken to recover the dues. Let’s say the same company A makes $20,000 worth of credit sales in a month and receives around $16,000 as receivables.

Automating the accounts receivable process is simple when you use accounting software that integrates with your payment system and business bank account. When overdue accounts go past 120 days, the lesser your chances of collecting. You may also lose out on an opportunity to expand or otherwise enhance your business because you won’t have the cash to invest. Examine the creditworthiness of your customers to ensure they are capable of paying on time. Consider adjusting credit terms for customers who consistently pay late. Let’s use an example of a business that has $10,000 in accounts receivable on January 1.

Simplify your DSO calculations and improve cash flow management with our free Excel template. Keep in mind that there is no magic number when it comes to DSO that represents excellent or poor AR management. This is mostly because these numbers tend to vary by the industry your company is in and also any underlying payment terms. Generally speaking, a lower number is going to be more favorable, as I mentioned before. Let’s go over the implications of having both a “high” and “low” DSO as a business. So let’s put this formula into practice for more of a working example.

Check the timing and effectiveness of invoice follow-ups and payment reminders. The longer an invoice remains unpaid, the higher the risk that it will eventually become uncollectible. This is known as bad debt, and it represents a direct loss of revenue for businesses.

DSO calculates the average number of days that a company takes to collect a payment of credit sale. It is used for the estimation of the average collection period and helps to determine the efficiency with which the company’s accounts receivables are being managed. Outstanding accounts receivable (AR) can strain a company’s cash flow, hinder growth, and increase financial risk. Implementing proven strategies to manage and minimize outstanding AR is essential for maintaining a healthy financial position. In severe cases, a high level of outstanding receivables and bad debt can negatively impact a company’s credit rating. This can make it more difficult and expensive to obtain financing from banks and other lenders, as they may view the business as a higher credit risk.