As a small business owner, improving your accounts receivable turnover should be a priority. After all, the money you earn selling your product or service on credit can’t truly be counted as revenue until it’s been collected from clients. The better you are at managing your accounts receivable and gathering customer payments, the better your cash flow will be. And having a healthy cash flow is one of the best indicators of long-term business success. 

What is Accounts Receivable Turnover?

Accounts receivable turnover is a measure of how effective your business is at converting its accounts receivable into cash in the bank. You can gauge how efficiently you extend credit to customers and collect money owed by using the Accounts Receivable Turnover Ratio.

How to calculate Accounts Receivable Turnover Ratio

accounts receivable turnover formula

 

In this formula, Net Credit Sales is equal to your total credit sales for the accounting period being measured (monthly, quarterly, annually), less any customer returns and refunds.

You can calculate your Average Accounts Receivable by adding your accounts receivable amount from the beginning of the period to your accounts receivable amount at the end of the period and dividing the result by two. The measurement period for your net credit sales and average accounts receivable should be the same. 

Average Accounts Receivable Formula

 

Why Does Your Accounts Receivable Turnover Matter?

Generally speaking, the higher your accounts receivable turnover ratio is, the more cash your business will have available to pay its expenses and service its debts.
A low turnover, on the other hand, could be a warning that your business has:

  • Poor credit control policies,
  • A haphazard approach to customer collections, or
  • A financially unreliable client base

Examining your credit terms and accounts receivable process is critical for protecting your company’s financial health. So with that in mind, here are 9 tips to help you improve accounts receivable turnover.

Build Strong Client Relationships

The first rule of thumb with accounts receivable is to establish strong client relationships. Happy clients are usually happy to pay for the goods or services you’ve provided. Whether you’re a small business or a growing corporation, small gestures like a friendly phone or email check-in with your customers can make a big difference when it comes to collecting payments on time.

Invoice Accurately, On Time, and Often

An accurate, detailed bill is the easiest kind of bill for your clients to pay! But it’s equally important that you bill on time, and bill often. Companies that invoice late risk setting a precedent for accepting late payments.

Don’t make the mistake of waiting until outstanding amounts are relatively high before invoicing your customers. Billing for services or products supplied more than a month ago increases the likelihood that clients will have mentally moved on. It’s also less daunting for customers to pay smaller, regular bills than to pay one large quarterly invoice.

Include Payment Terms

Set your accounts receivable up for success by including clear payment terms on your invoices. Request payment within Net 30 days, and don’t be afraid to include late payment charges. Late payment fees are usually a percentage of your original invoice amount. If you sell products or services of a higher dollar value, it may be wise to also set credit limits or offer payment plans.

Use Cloud-Based Software

Cloud-based accounting software makes your billing and accounts receivable process easier. Working in the cloud lets you access your financial data from anywhere and collaborate with your bookkeeping team in real time.

At Enkel, we love using Xero and QuickBooks Online for working with small to midsize business clients because they’re easy to use and provide a high level of functionality

Both Xero and QuickBooks Online offer easy integration with your time tracking software, which means you can include time entries in your company invoices. And because they work seamlessly with programs like Expensify and Receipt Bank, they also let you include incurred expenses on your invoices.

Xero and QuickBooks Online connect with a wide range of analytics tools to help you track cash flow. These cloud-based accounting softwares make it easy for you to automate recurring invoices and follow-up reminders for clients.

Make Paying Invoices Easy

By providing multiple ways for clients to pay your invoices, you make it easier for them to adopt the accounts payable method their accounting department prefers. And that means they’ll be far more likely to pay your invoices on time!

Gone are the days, however, when accepting only cheques or wire transfers for payment was good enough. Today, most companies accept EFTs (electronic funds transfers) and credit card payments as well.

At Enkel, we use Plooto to quickly send and receive payments via cheque or wire transfer – while programs like Square make it easier for your clients to pay their bill by credit card. Yes, there are commission fees attached to these services, but the convenience of accepting online payments and receiving your payments earlier can make them a worthwhile expense.

Do Away With Having an Accounts Receivable

The best method for managing accounts receivable is saying goodbye to them entirely! This may not be a viable solution for every service-based business, but many companies have the option of accepting pre-payments before providing their product or service.

By using online payment platforms like Square or PayPal, you may be able to remove the need for collections calls, while reducing potential losses from client non-payments. Commission fees charged by payment portals can seem costly up front, but they often save time and money over the long run.

Simplify Your Billing Structure

Many service businesses have cut down on accounts receivable headaches by transitioning to fixed-fee billing. When you sign a service contract with your customer, you essentially offer the same monthly services at a fixed price. And that can go a long way toward reducing the panic that often occurs when a client receives a higher invoice than expected.

Fixed fee billing arrangements also make it possible to request that automatic payments be withdrawn directly from your clients’ accounts every month. As a result, fixed-fee billing strikes an effective balance between providing your customers with billing clarity – and ensuring you receive regular payments on time.

Follow Up Regularly

Nobody loves making collections calls. Which is all the more reason to follow our tips for improving your accounts receivable turnover, and reduce the need to make them at all!

You can streamline your collection process by making it a policy to always provide detailed, accurate invoices and clear payment terms upfront. Mistakes do happen, however. And sometimes a missed payment is just that – an honest mistake where the client will appreciate a friendly reminder.

At Enkel, our collection process includes both a courtesy reminder sent 10 days before an invoice is due, and immediate follow-up once that due date has passed.

Reconcile Frequently

The more frequently you reconcile your accounting records, the more up-to-date your accounts receivable will be. How are the two connected?

As soon as you receive payments from credit customers, they should be reconciled to outstanding invoices and cleared off your receivables list. That keeps your accounts receivable balance current, and makes it easier to track turnover. At Enkel, we believe in frequent bank reconciliations for just this reason.

Remember, taking steps to manage, monitor, and improve accounts receivable turnover is key for healthier cash flow. Not only will tracking your turnover help you spot trends in your accounts receivable practices, you can use that information to gauge the impact of your practices on your company’s profitability.

If you’re looking for additional support in managing your accounts receivable, we can help! Contact us to learn more. 

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