Debtor Days: Formula, Interpretation & Tips to Reduce
Aashima Lamba
Nov 12, 2024
Did you know as many as 58 per cent of small or medium enterprises (SMEs) across the UK are currently waiting on late payments from customers? Late payment is a significant problem for many businesses, hampering their cash flow, hiring plans, expansion and more. In fact, one in four bankruptcies in Europe occurs because of late payments.
This exhaustive guide will delve deep into the “Debtor Days” metric. Keep reading to discover:
Tired of late payments and prolonged debtor days? Click the banner below to connect with our cash collection experts and craft a personalized collection strategy for your business.
What is Debtor Days?
Debtor Days, also known as Days Sales Outstanding (DSO), is a metric representing the average time in days that a business takes to collect revenue after a sale has been made on credit. This metric is critical for assessing a company's liquidity and operational efficiency.
The role of Debtor Days in managing cash flow cannot be overstated. A lower number of Debtor Days (or Days Sales Outstanding) indicates that a company is collecting its receivables more quickly, which improves cash flow and provides funds for daily operations, investment, and debt repayment.
Debtor Days Formula
To calculate your Debtor Days, you have several options:
The simple method
The count-back method
The automated method
1 - The Simple Method of Calculating Debtor Days
Calculating debtor days involves a straightforward formula:
To calculate it, you need to divide your AR at the end of the period by your gross revenues over the same period. You then multiply this number by the number of days in the period.
Example Calculation
For instance, if a company has an average accounts receivable of £50,000, gross revenue of £600,000, and the period in question is 365 days, the debtor days would be calculated as follows:
Debtor Days = (£50,000 / £600,000) * 365 = 30.42 days
This indicates that it takes approximately 30 days on average to collect the receivables.
2 - The Count-back Method of Calculating Debtor Days
The Count-back method provides a more precise calculation of Debtor Days by assessing accounts receivable and gross sales on a month-by-month basis. Here's how it works:
Compare A/R to monthly gross sales: Begin by comparing your accounts receivable (A/R) to your gross sales for each month.
If A/R exceeds gross sales: Add the number of days in the month to your Debtor Days count. For the next month, subtract the month's gross sales from your A/R.
If gross sales exceed A/R: Calculate the ratio of A/R to gross sales and multiply this by the number of days in the month.
Accumulate Days: Continue this process month-by-month until gross sales exceed accounts receivable. The total days accumulated represent your debtor days.
Example Calculation
Let’s assume the following monthly data:
November: A/R is £10,000, and gross sales are £3,000. Since A/R exceeds gross sales, add 30 days to your debtor days count. Adjust A/R to £7,000 for October (£10,000 - £3,000).
October: A/R is now £7,000, and gross sales are £2,500. Add 31 days to your debtor days count, totalling 61 days so far. Adjust A/R to £4,500 (£7,000 - £2,500) for September.
September: In September, gross sales of £5,000 finally exceed the adjusted A/R of £4,500. Calculate the debtor days for September using the ratio of A/R to gross sales: \( \frac{4,500}{5,000} \times 30 = 27 \) days.
Summing all these, the total is 61 + 27 = 88 debtor days for the period.
3 - Automated Tools for Debtor Days Calculation
If you’re seeking to streamline your financial processes, automated tools for calculating Debtor Days offer a significant advantage. Upflow, for instance, offers a lifetime free discover plan that gives you instant visibility into your Debtor Days, integrating directly with your invoicing system and automating the count-back method. This allows you to:
Maintain accuracy: Automate Debtor Days calculations and minimize human errors.
Save time: Focus on strategic financial management rather than routine calculations.
Gain real-time insights: Quickly adapt to changes in your accounts receivable status with up-to-date data displayed on a user-friendly dashboard.
By leveraging tools like Upflow, you can effortlessly track and manage debtor days, ensuring that you have accurate and timely data at your fingertips to make informed financial decisions.
Understanding and implementing these advanced methods for calculating Debtor Days will enhance your business’s cash flow management and credit control processes, thereby improving financial health. Want to calculate your debtor days or DSO now? Download our free DSO calculator spreadsheet
With your debtor days calculated, you might be wondering what qualifies as a "good" number. Like many metrics, the ideal figure varies—while the purpose of debtor days remains consistent, what counts as a healthy number depends on the industry. So now lets take a look at the median debtor days/DSO of various industries
Debtor Days by Industry
To help you better interpret your debtor days we analysed the median debtor days/DSO of various industries in our State of B2B Payments in 2024 report.
The overall median debtor days across industries is 56 days, though there are significant variations by sector. Some industries collect payments faster than others. For example, traditional sectors like Office & Facilities Management and Consulting often see much higher debtor days, with businesses commonly working on longer payment terms. However, many companies within the median of Office & Facilities Management still face challenges enforcing these terms. In contrast, organizations in the top 25th percentile in this sector—what Upflow considers ‘best-in-class’—achieve a DSO of 78 days, effectively receiving payments within the agreed terms.
Meanwhile, Clothing, Accessories, and Home goods companies record the lowest median debtor days or DSO among industries tracked by Upflow. This difference is likely due to their dependency on physical inventory, which creates a need for faster payments post-transaction. These businesses also enforce payments by controlling credit access; clients don’t receive new inventory until past invoices are cleared. This approach contrasts sharply with sectors like Office & Facilities Management, where it’s more challenging to enforce timely payments due to limitations, such as not being able to ‘evict’ clients from their offices for non-payment.
Now that you know where your company stands as compared to other in your industry, you can focus on improving your debtor days
How to Reduce your Debtor Days?
To effectively reduce debtor days and improve cash flow, consider these strategies:
Implement Clear Payment Terms
Define and communicate payment terms upfront. Ensure that clients understand due dates, payment methods, and any penalties for late payments.
Optimize Invoicing Processes
Use automated invoicing software to send accurate and timely invoices immediately after goods or services are delivered. Include clear details to minimize back-and-forth.
Incentivize Early Payments
Offer discounts for early payments, such as a 2% discount for payments made within 10 days, to encourage prompt payments and reduce the average collection period.
Use Automated Reminders
Set up automated reminders for approaching and overdue invoices. These reminders can help keep your receivables top of mind for customers without requiring manual follow-up.
Strengthen Credit Policies
Conduct credit checks on new clients and regularly review the creditworthiness of existing customers. Limiting credit to high-risk clients can reduce overdue receivables.
Consider Flexible Payment Options
Offer multiple payment methods, including online options, to make it easier for clients to pay on time. Consider installment options if cash flow is a common challenge among customers.
How can Upflow help?
Businesses that focus on reducing Debtor Days often experience significant improvements in operational efficiency and financial stability. A compelling example of this is Hokodo, a UK FinTech company that faced challenges with manual accounts receivable processes and a decentralized collection strategy.
By implementing Upflow, Hokodo centralized its A/R management and automated many of its processes, which led to a remarkable 75% decrease in Debtor Days, significantly boosting cash flow and financial stability.
Moreover, this automation enabled Hokodo to save on hiring costs, demonstrating the substantial ROI that effective Debtor Days management can bring to a growing company. This case underlines how strategic improvements in A/R processes can directly contribute to a business’s financial health and operational efficiency.
In your exploration of enhancing accounts receivable management, consider the insights from our framework on the 5 stages of cash collection maturity. In this resource, Alex Louisy, CEO of Upflow, outlines a strategic path from basic practices to fully automated systems, offering a vital roadmap for businesses seeking to improve their cash flow and reduce Debtor Days.
Key Takeaways
Debtor Days or DSO, is a key metric for assessing how long it takes a business to collect payments after a sale on credit. Lower Debtor Days can significantly enhance cash flow, enabling smoother daily operations and investments.
There are 2 main methods to calculate Debtor Days: the simple method and the count-back method. It is advised to use automated tools like Upflow to calculate debtor days, which also provide real-time insights for improved financial management.
Industries vary widely in Debtor Days; traditional sectors often see longer cycles, while industries like retail have faster payments due to inventory dependencies.
Effective strategies to reduce Debtor Days include clear payment terms, optimized invoicing, early payment incentives, automated reminders, and strong credit policies.
Automating Debtor Days tracking improves accuracy, saves time, and enables quick decision-making for better cash collection management.
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