Debtors/Receivables Turnover Ratio: 

The term account receivable includes trade debtor and bill receivables.It is a component of current assets and as such has direct influence on working capital position(liquidity) of the business.Perhaps, no business can afford to make cash sales only thus extending credit to the customers is a necessary evil.But care must be taken to collect book debts quickly and within the period of credit allowed.Otherwise chances of debts becoming bad and unrealizable improve.How effective is the credit collection?To provide answer this ratio is calculated.

 

Receivables turnover ratio=  Annual Credit(net) sales

                                                    Average accounts receivables

 

where accounts receivables = Trade Debtors+Bills Receivables

 

Note:when calculating trade debtors it should be grossi.e. provision for bad and doubtful debts should not be deducted from the amount of debtors.Receivables collections periods is calculated and supplemented with the receivables turnover ratio to help better understanding and communication.

 

Interpretation:

Higher turnover ratio is better.Higher turnover signifies speedy and effective collection.Lower turnover indicates sluggish and inefficient collection leading to the doubts that receivables might contain significant doubtful debts.Receivables collection period is expressed in number of days.It should be compared with the period of credit allowed by the management to the customers as a matter of policy.Such comparison will help to decide whether receivables collection management is efficient or inefficient.

 

Example:

Calculate the following:

(a) Receivables turnover ratio and    (b) Receivables collection period

 

Annual total sales                                                             49,50,000                 

cash sales(included in above)                                           6,25,000

Sales return                                                                              75,000

Opening Balance of receivable                                         3,60,000

closing balance of receivable                                            4,00,000

Provision for bad and doubtful debt(opening                  40,000

Provision for bad and doubtful debt(closing)                   50,000

 

Solution:

 

(1). Annual Credit Sales(net):                                                                                             

       Total Sales                                                                                                                       49,50,000

       less: Cash Sales                                                                     6,25,000

                Sales Returns                                                                   75,000                            7,00,000

                                                                                                                                                    42,50,000

 

 

(2). Average Receivables:

       Opening Receivables(net)                                                                                              3,60,000

       Add:Provision Opening                                                                                                      40,000

       Add:Closing Receivables(net)                                                                                        4,00,000

       Add: Provision Closing                                                                                                        50,000

                                                                                                                                                     8,50,000

 

Average Receivable=(8,50,000/2)=4,25,000

 

(a). Receivable Turnover Ratio:

                                                         =42,50,000   =10 times

                                                              4,25,000

 

(b). Receivables Collection Period:

                                                             =365   =36.5 days=37 days approx.

                                                                 10