The Most Accurate Formula to Calculate your DSO
Jan 26, 2023
Your DSO - for Days Sales Outstanding - is a key metric that calculates how long it takes for you to get paid. Specifically, your DSO is the average number of days it takes for your invoice to be paid once it has been sent.
It’s an important KPI to calculate because it is an indicator of your liquidity. Indeed, your DSO:
Indicates how much cash flow you can expect at a given time,
Informs you of your credit sales and payment times,
Shows the efficiency of your payment terms and overall collection processes.
There are two DSO calculation formulas: the simple method and the countback method. The most accurate is the latter, but it is more time-consuming than the former. So keep reading to find out which is best for your business and why.
Check out free spreadsheet to calculate, interpret and improve your DSO!
DSO Calculation: the Simple Method
Simple DSO Formula (With Example).
The simple DSO method is named this way for a reason: it is a very quick and straightforward way to get your Days Sales Outstanding.
To calculate it, you need to divide your Accounts Receivable at the end of the period by your gross sales over the same period of time. You then multiply this number by the number of days in the period.
Let’s take a quick example:
Your sales at the end of the year are $2,000,000.
Your Accounts Receivable are $200,000.
Using the simple method, your DSO would be $200,000 / $2,000,000 * 365 = 36,5 days
That means that over the year, it took your business 36,5 days on average to get paid.
Depending on your industry, that might be a low DSO or a higher DSO than average. With time, you’ll get to know what your overall average DSO is and be able to spot any variation.
Having trouble using this method? Download our free formula spreadsheet.
Why The Simple Method to Calculate DSO Is Not Enough.
While this method is, well, simple, it doesn’t lead to the most accurate DSO. Indeed, it is based on the average number of days it takes you to get paid over a given time frame.
If you want to calculate your DSO over a year, using the simple method will not take into account any seasonality in your business. So if your business is closed in August or doesn’t do much turnover in December, your DSO calculation will not be accurate.
To get a more accurate result that factors in your normal yearly ebbs-and-flows of business, you’d have to calculate your DSO for these different periods. Then, you’d compare them against each other to get a loose idea of your cash conversion cycle.
Not the simplest anymore - and still not as accurate as the next method we’re going to see.
The Countback Method to Calculate DSO.
DSO Formula: The Countback Method (With Example)
The countback method is the more complex of the DSO calculation formulas. With this method of days outstanding calculation, you go back to find exactly the amount of time it took your company to get paid.
For this method, you need both your receivable balance and your gross sales amount over a given time frame - usually a month - from your balance sheet. Once you have these two numbers for each month, you compare them to each other going back in time.
If your AR amount is higher than your sales amount for the month, you add the number of days in the month to your DSO calculation (you start at 0). When moving back a month, you subtract your gross sales from your A/R.
If your gross sales are higher than your A/R amount, you calculate a day sales outstanding ratio. You divide your sales by your accounts receivable and then multiply this by x number of days in your month.
You count back every month until you find your gross sales are higher than your A/R. Once you’ve added this month’s ratio to your DSO, you’re done! Your DSO is the amount of time you’ve added together by counting back.
Here’s an example to make it more concrete:
In May, your accounts receivable are superior to your gross sales, so you can add the days of the month straight to your DSO calculation. You then deduct 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 June, your A/R is again higher than your gross sales, so you can again add the days of this month to your DSO. Then, you take out your gross sales from your accounts receivable to report it to the next month’s accounts receivable.
DSO = 61 days.
$8,000 - $1,000 = $7,000 reported in A/R in July.
In July, your A/R is lower than your gross sales, so you calculate 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:
DSO = Your A/R at the end of the period / Gross sales over the period x Number of Days of the Period
$7,000 / $10,000 * 31 days = 21
DSO = 82 days (61 + 21 days)
That’s it! You’ve calculated your DSO: 82 days is the time it takes to convert your invoices into cash.
Benefits of Using the Countback Method for Your DSO.
This days sales outstanding formula is more complex but more accurate too. That’s why most CFOs and finance professionals use this method to calculate their company’s DSO and that’s why you should use it too.
Unlike the simple method, it is not based on an average over a period of time. Since it goes back in time, you can be assured that the DSO result you get is the most accurate month-by-month (or period-by-period).
Once you have your DSO value, you can benchmark it against your industry’s financial ratios. It’s always insightful to find out what the average accounts receivable to cash sales ratio is!
And if your competitors have public accounts, you could even calculate their DSO and find out if there is much variation with yours.
Of course, you can also use DSO calculation formulas to monitor your financial health over the years… For instance to see how a change in your pricing or profitability margin affects it.
But that amounts to a lot of calculations to do! The good news is: that there is a better way to calculate your days sales outstanding ratio and set up a strategy to reduce it.
The Best Way To Calculate Your Day Sales Outstanding Using the Countback Method.
Why Using Excel Isn’t the Best for DSO Calculation.
While it is tempting to calculate your DSO on an excel spreadsheet, it is not the best way to do it. If you want to use the countback method (the most accurate), then it requires a few formulas and probably some switching between different tables.
While it is doable (you could create a template for it), there are a few things to take into account:
It is error-prone: even the best mathematicians make mistakes sometimes. Calculating your DSO manually leaves room for inaccuracies.
It is not the most efficient: calculating your DSO by hand requires chasing the latest data from different software. The countback method is the most accurate but it does take time - especially if you want to calculate it for different periods. It’s time that could be used to actually work on achieving a lower dso.
Automating Your DSO Calculation to Improve Your Accounts Receivable Collection.
So, what’s the most accurate way to calculate your DSO that’s also time-efficient? It’s using the countback method but letting a tool do the calculation for you.
You could use an automated A/R software with extensive analytics and dashboards, like Upflow!
Our AR management solution automatically calculates your financial ratios - that includes your days sales outstanding. And, of course, we use the countback method to do so. Upflow connects with third-party apps like your invoicing software, so there is no need to keep switching between tables or software to chase the latest data.
Not having to spend time calculating your days sales outstanding (and the other key financial metrics) means dedicating your energy to tasks with a higher added value.
It could be working on having a lower DSO, for instance. One easy way to do that is to offer incentives for your clients to pay early - like a 5% discount if they pay upfront. Another avenue to explore reviewing your credit policy. If you have a high DSO, you want to look at your whole receivable process and see where and how you can improve it.
All in all, working on strategies to improve your financial health (and financial statements) is time better used than on tiresome calculations. Let us do the heavy lifting for you so you can focus on your company’s long-term success.
Your Days Sales Outstanding indicates the amount of time it takes you to get paid once you have issued an invoice.
There are 2 days sales outstanding formulas: one is the simple method, the other is the countback method.
The simple method to calculate your DSO gives you the average number of days it takes you to get paid over a specific time frame.
The countback method is the most accurate way to calculate your DSO. It’s also the most used. You find it by counting back month-by-month with your A/R and gross sales ratios.
While the countback method is the most accurate, it takes time to calculate and can be tiresome. That’s why the best way to calculate your DSO is by automating it.
A software like Upflow allows you to spend less time on calculating KPIs and more time on implementing your long-term strategy.