Are you a business owner looking to understand your company’s liquidity?
The Accounts Receivable to Sales Ratio is an important metric that can provide insight into the financial health of your business. It measures how quickly customers pay their invoices and indicates how much cash flow is available for operations.
With this ratio, you can make informed decisions about managing customer payments and improving cash flow. You will also be able to identify potential problems before they become too serious.
Keep reading this blog post to learn more about the Accounts Receivable to Sales Ratio and see an example of how it is calculated!
What Is The Accounts Receivable To Sales Ratio?
The Accounts Receivable to Sales Ratio is calculated by dividing the company’s sales for a given accounting period by its accounts receivables for the same period.
What Is Accounts Receivable?
Accounts receivable are the amounts owed to a company by its customers who have purchased goods or services on credit. Accounts receivable are considered assets and recorded on the balance sheet because they can be converted into cash when due.
What Are Sales?
Sales are a company’s total revenue from selling its goods or services. Sales can be either on credit or cash.
What Does The Ratio Mean To Me?
The Accounts Receivable to Sales Ratio measures how much a company’s sales occur on credit. When a company has a more significant percentage of its sales happening on credit, it may run into short-term liquidity problems.
If Accounts Receivables are on the rise relative to sales, then there may be an issue with cash flow. The goal of any healthy small or medium-sized business should be to keep Accounts Receivables as low as possible so they’re not relying too heavily on credit transactions for revenue generation.
How Can I Use This Ratio?
Business owners can use the Accounts Receivable to Sales Ratio in several ways. For example, it can help you assess your company’s liquidity, monitor credit sales, and determine the effectiveness of your collections process. It can also be used as a benchmark to compare your company against other companies in the same industry.
Formulas And Other Fun Stuff
Accounts Receivable to Sales Ratio Formula
The formula is accounts receivable divided by total sales for a specific accounting period. Therefore, it is essential to ensure the period is consistent for benchmarking. The most common periods are one month and one quarter.
A lower ratio indicates fewer sales on credit, and a higher ratio means more sales on credit.
Where To Find The Data?
If you work internally for your own company, the financial systems will have all this information for easy calculations. You can even build these types of ratios right in the system.
You can visit the company’s website to find information externally and look for SEC filings. Alternatively, you can also use a financial database, like Morningstar, Yahoo! Finance, Seeking Alpha, or Motley Fool.
Let’s Walk Through An Example
First, we must visit a company’s investor page or access a financial database. For more information on finding investor pages, see our article on Reading Financial Statements.
For this example, we will use General Motors, which was the 22nd largest company in the US for 2021. This is an excellent example as they run a large accounts receivable balance and produce cars to sell to dealerships. In addition, you can find General Motors SEC filings on their investor website.
Look at the 3rd Quarter 2021 filing, the most recent quarterly filing available. For the quarter, GM Automotive had sales of $23.426B. At the end of the quarter, they had $8.091B of receivables. Make sure to always compare apples to apples. We want to look at automotive sales as GM has a financing business with a very different receivable structure.
Now that we have the data let’s plug it into our formula.
That is a reasonably high ratio as these things go. You will want to compare to other companies in the same industry. Since GM works with an exclusive dealer network, they may let their dealers carry accounts for more than 30 days.
The Accounts Receivable to Sales Ratio is a crucial business metric that can tell you much about your company’s liquidity and cash flow. We hope these examples and insights help you better understand the Accounts Receivable to Sales Ratio and how it might shine a light on your company’s financial health.
Frequently Asked Questions
What is a good account receivable ratio?
A healthy Accounts Receivable to Sales Ratio is typically less than 30%. The ratio varies by industry, so it helps to compare yourself against others in your exact business.
What is the Accounts Receivable Turnover?
The Accounts Receivables Turnover ratio measures how often a company collects its accounts within a specific period.
What is a reasonable percentage of accounts receivable to be past due?
It would be best to aim to have less than 15% of your accounts due past 90 days. Firms with solid collections practices will often run as low as 5%. If Accounts Receivables are past due, this may mean that your business needs to collect payments on time or you need to amend the way you invoice customers and/or collect payments from them.
Is the account receivable ratio the same as the A/R turnover ratio?
No, the Accounts Receivable to Sales Ratio and A/R Turnover Ratios are different calculations. The Accounts Receivable to Sales Ratio measures how much of a company’s sales occur on credit, while the A/R Turnover Ratio measures how many times a company collects its accounts receivables within a specific period.
What level of accounts receivable is reasonable?
Accounts receivable are all relative to your sales. What is reasonable for a billion-dollar company won’t suit a million-dollar company. This is why ratios are so critical: normalizing the dollar value and putting it into practical terms.
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