There are two DSO calculation formulas. One is the most accurate but it is more time-consuming than the other. Which is best for your business and why?
Reduce Your DSO
Welcome to our guide about DSO! Here you’ll find many resources to help you calculate, interpret and improve your DSO.
What is DSO and why is it crucial for your business?
DSO - or days sales outstanding - should be the North Star metric of all cash collection teams. Simply put, it is the time - counted in days - it takes you to get paid by your customers. Concretely, your DSO is the number of days between the issuing of your invoice and the invoice actually getting paid.
The lower it is, the better - and the better your cash flow! Or, more precisely, the closer it is to your payment terms and conditions, the better. A DSO much higher than your payment terms indicates issues in your cash collection process and can have a direct impact on your company’s cash flow. Reasons could be a lack of pro-activity, too many manual processes, or just having a few clients always paying late.
To sum it up, your DSO is a key metric in your cash conversion cycle that should be tracked on a regular basis.
How do you calculate your DSO?
There are two different methods to calculate your days sales outstanding: the simple method and the countback method.
The countback method is more accurate as it considers seasonality but the simple one can do the trick if you’re looking for a quick answer. Choose one method and stick to it for consistency. Of course, we recommend computing your DSO calculation. The most efficient way is using dedicated AR software to calculate your DSO - and all cash collection metrics for that matter -. It’s more reliable and efficient than using spreadsheets or compiling different sources. It also helps you actually improve your collection process.
Check out our examples for both methods below!
You need your accounts receivable balance and your gross sales at the end of your selected period - for every month.
From there, there are two possibilities:
Your accounts receivable is higher than your gross sales: in this case, you can add the number of days in the month straight to your DSO calculation (eg: 30 days).
Your accounts receivable is lower than your gross sales: here, you calculate a ratio between your accounts receivable and your gross sales and multiply the result by the number of days in the month.
Start with the later month and go backward in time until your gross sales are superior to your A/R. The number you have in your DSO there is your final dso value.
In May, your accounts receivable are superior to your gross sales.
You can add the days of the month to your DSO calculation. You then remove your gross sales from your A/R balance to report it to the following month's A/R.
DSO = 31 days.
$11,000 - $3,000 = $8,000 reported in A/R in June.
In July, your A/R is inferior to your gross sales.
Start by calculating a ratio between both to find out the number of days to add to your DSO.
For this, you use the DSO calculation formula used in the simple method:
$7,000 / $10,000 * 31 days = 21
DSO = 82 days (61 + 21 days)
DSO standards: what is a good DSO?
The general rule is: the lower your DSO, the better. But to be more exact, it’s more: “the closer to your payment terms, the better.”
For example, in subscription-based businesses, most clients might have an automatic payment set up and DSO might be 0 days. Or clients could have net 30 payment terms and having a 30 days DSO is great too.
To sum it up, it’s all relative, and that’s also why it’s important to calculate other metrics! As you can see in the benchmark, different industries tend to have different average DSOs.
What’s certain is that if your DSO is low and close to your payment conditions, it shows satisfaction with the service or product you provide. On top of that, it means you can make the most of your cash flow and be on time for your own payments.
Basically, a low DSO is a sign of financial health and stability as well as a fast cash conversion cycle and liquidity.
How can you reduce your DSO?
The first step to improving your DSO is having a look in the mirror: what does your cash collection process look like and what does your client have to do to pay you? In the end, the easier it is to pay you, the quicker your customers will actually pay you. Below are some actionable tips to reduce your DSO:
Having crystal-clear invoicing and billing procedures.
Send invoices that outline your payment terms and payment methods. Always include the due date and clear instructions to pay you, as well as contact information in case of problem. Make sure all your team is informed of the billing procedures: you don’t want to get stuck if someone is on leave.
Using incentives for early or upfront payment.
Rather than chasing your late paying customers and “punishing” them by charging late payment fees, create a win-win situation by offering a discount. Your clients are likely to pay in a more timely manner.
Offering different payment methods.
In the spirit of making payment simple, having different payment options is a good way to get paid faster. You can offer ACH, direct debit, wire transfers, credit card and use a digital payment platform to improve the customer experience.
Setting up a proactive collection strategy.
Don’t wait for late payments to take action: set up a strategy to avoid them in the first place. Start by analyzing your accounts to identify different types of clients and send out specific payment reminder emails to each type. Start before the due date and increase the frequency and assertiveness with time. This is where having cash collection software like Upflow comes in handy: the email workflows are sent automatically and can be personalized to the account type.
Implementing AR automation software.
As stated above, having a proactive approach to your cash collection is crucial to reducing your DSO. You might think that can be achieved with spreadsheets or a team of dedicated people: in reality, it’s much more efficient to use dedicated software. AR software like Upflow sends out automated yet personalized email workflows, tracks your main metrics automatically and gets you paid on time, lowering your DSO in no time.
All our articles about DSO
Jan 26, 2023
A guide to measuring DSO using the simple, countback methods and Accounts Receivable automation tools.
Jan 23, 2023
Understand what is your DSO and learn how to calculate it
Aug 19, 2022
Your DSO is a crucial financial ratio to track. Reducing your DSO should be a priority in any business. By doing so, you’ll reduce your risks of running into cash flow problems. Find out why automation is the best way to improve it!
May 18, 2022
Tracking Accounts Receivable metrics is essential and allows you to monitor your cash flow better. One of the essential KPI is your Days Sales Outstanding. Read on to learn more about your DSO!
May 11, 2022
Explore 5 key steps you should follow to lower your DSO
Nov 25, 2021
What other AR metrics should you track?
Tracking your DSO won’t be 100% efficient if you don’t follow up on other important metrics. They will help you gain perspective and a deeper understanding of your cash collection.
For example, it’s important to track your Aging Balance and your Collection Effectiveness Index. The first helps to understand which customer hasn't paid yet and for how long. The second measures how effectively your company collects total payments due.
Improve your DSO with Upflow!
Reduce late payments and manual processes, increase efficiency and team collaboration.