What is the accounts receivable days formula?

In business, a sale isn’t truly complete until the money hits your account. Ensuring that accounts receivable (AR) is functioning smoothly is therefore critical for maintaining cash flow and sustaining business operations. But how can you boost the efficiency of your accounts receivable processes? Well, this is where the accounts receivable days formula becomes a valuable tool.

In this blog, we’ll be looking at the concept of accounts receivable days, how to calculate it, and how this metric can provide crucial insights into your business’s overall financial health.‍

Accounts receivable days explained

Accounts receivable days is a key performance indicator (KPI) that measures the average number of days it takes for your company to collect payments after a sale is made. Essentially, it reflects how effectively your business collects short-term debts. If your finance team is often caught up in a culture of late payments, accounts receivable days provides a formula for assessing the duration an invoice will remain outstanding before it is cleared. 

This metric is crucial for financial teams aiming to optimise cash flow and maintain a healthy balance sheet. By monitoring your accounts receivable days, you can identify inefficiencies in your credit and collection processes and make adjustments to ensure timely payments.

How to calculate accounts receivable days

The formula to calculate accounts receivable days is straightforward:

Accounts receivable days = (Accounts receivable / Revenue) × 365

Let’s break this down with an example:

Imagine Company B has:

• Accounts receivable: £150,000
• Annual revenue: £1,000,000

Using the formula given above, we can see accounts Receivable Days = (150,000 / 1,000,000) × 365 = 54.75 days

This means that, on average, Company B takes just under 55 days to collect the outstanding payments from its customers. The company will then be able to act on this knowledge. For example, if Company B’s standard payment term is meant to be 30 days, by using this formula, their financial team can clearly see inefficiencies within their collection processes. A significant delay like this could lead to cash flow challenges, suggesting a need to review credit policies and AR operations.

What do your accounts receivable days say about your business?

The accounts receivable days metric is more than just a number — it’s a window into the overall health of your financial operations. Let’s take a look at the meaning that might be attached to the possible outcomes of this formula. 

• High accounts receivable days. A higher than average ratio could indicate inefficiencies in collections, overly lenient credit policies or issues with customer payment behaviour. While extended payment terms can be helpful in fostering customer relationships, they can also strain cash flow.
  
  
• Low accounts receivable days. While it might seem like a good thing, a very low ratio could suggest that your credit terms are too strict, potentially deterring customers and even limiting sales opportunities.

The “ideal” accounts receivable days figure will depend on your industry norms and payment terms. For example, industries like construction or oil and gas may have higher ratios due to longer payment cycles, while technology firms often experience shorter cycles.

How to gain a healthy accounts receivable days ratio

To achieve a well-balanced accounts receivable days ratio, focus on streamlining your accounts receivable processes. Here are some effective strategies for doing just that:

• Automate payments. Implement systems like direct debit or instant bank payments to ensure timely and reliable payments. Automation reduces the manual effort and the delays associated with traditional payment methods.
  
  
• Set clear payment terms. Communicate payment terms clearly to customers from the outset. Ensure your invoices specify due dates and any applicable late fees.
  
  
• Monitor and analyse trends. Regularly review your accounts receivable days ratio to track improvements or spot emerging issues before they can escalate. Pair this analysis with detailed reports like an accounts receivable aging report for a deeper dive.
  
  
• Offer incentives for early payments. Discounts for early payments can motivate customers to settle invoices sooner, boosting cash flow overall.
  
  
• Improve customer communication. Establish regular follow-ups and reminders for pending invoices. A proactive approach helps minimise delays and ensures customers are aware of terms and expectations. 

The accounts receivable days formula is a powerful finance metric that provides a clear view of how efficiently your business collects payments. By understanding and optimising this KPI, you can improve cash flow, enhance customer relationships and strengthen your financial foundation.

A healthy accounts receivable days ratio isn’t just a number – it’s a sign of a thriving business! Try some of these suggested steps to streamline your processes and enjoy the benefits of a robust and reliable cash flow system. Or to find out how to stay on top of your cash flow with an automated reconciliation system, book a free Aurum demo today.