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Debtors Turnover Ratio or Receivable Turnover Ratio:

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Definition and Explanation:

Ratio of net credit sales to average trade debtors is called debtors turnover ratio. It is also known as receivables turnover ratio. This ratio is expressed in times.

Accounts receivables is the term which includes trade debtors and bills receivables. It is a component of current assets and as such has direct influence on working capital position (liquidity) of the business. Perhaps, no business can afford to make cash sales only thus extending credit to the customers is a necessary evil. But care must be taken to collect book debts quickly and within the period of credit allowed. Otherwise chances of debts becoming bad and unrealizable will increase. How effective or efficient is the credit collection? To provide answer debtors turnover ratio or receivable turnover ratio is calculated.

Formula:

Following formula is used to calculate debtors turnover ratio:

Receivables turnover ratio = Annual net credit sales / Average accounts receivables

Where accounts receivables = Trade debtors + Bills receivables

Figure of trade debtors for this purpose should be gross i.e. provision for bad and doubtful debts should not be deducted from the amount of debtors. Receivables collection period (also known as average collection period) is calculated and supplemented with the receivables turnover ratio to help better understanding and communication.

Interpretation:

Normally higher the debtors turnover ratio better it is. Higher turnover signifies speedy and effective collection. Lower turnover indicates sluggish and inefficient collection leading to the doubts that receivables might contain significant doubtful debts. Receivables collection period is expressed in number of days. It should be compared with the period of credit allowed by the management to the customers as a matter of policy. Such comparison will help to decide whether receivables collection management is efficient or inefficient.

Example:

From the following particular calculate Receivables turnover ratio and average collection period

  $
Annual total sales 49,50,000
Cash sales (included in above) 6,25,000
Sales returns 75,000
Opening balance of receivables (net) 3,60,000
Closing balance of receivables (net) 4,00,000
Provision for bad and doubtful debts (opening) 40,000
Provision for bad and doubtful debts (closing) 50,000

Solution:

Working:

Annual credit sales (net)   $
Total sales   49,50,000
Less: Cash sales 6,25,000  
Less: Sales returns 75,000 7,00,000
 

    42,50,000
   
Average receivables:    
Opening receivables (net)   3,60,000
 Add: Provision opening   40,000
Add: Closing receivables (net)   4,00,000
Add Provision closing   50,000
   
    8,50,000
   
 Average (i.e. 8,50,000 / 2)   $4,25,000
   

Receivables turnover ratio = Annual credit sales (net) / Average accounts receivables

= 42,50,000 / 4,25,000

10 times

Receivables collection period = No. of days in the year / Receivable turnover ratio

= 365 / 10

= 36.5 approx. or 37 days.

More study material from this to
 

More study material from this topic:

Meanings, Nature and Usefulness of Ratios Analysis
Interpretation of Ratios
Important Factors for Understanding Ratios Analysis
Significance and Usefulness Ratios Analysis
Classification of Ratios
Analysis of Short Term Financial Position or Test of Liquidity
Current Ratio
Quick/Acid Test/Liquid Ratio
Absolute Liquid Ratio
Inventory/Stock Turnover Ratio
Debtors / Receivable Turnover Ratio
Creditors / Payables Turnover Ratio
Working Capital Turnover Ratio
Profitability Ratios
Gross Profit Ratio (GP Ratio)
Operating Profit Ratio
Net profit ratio (NP ratio)
Earnings Per Share Ratio
Operating ratio
Expense ratio
Solvency ratios - Test of Long Term Solvency
Debt-equity Ratio
Debt Service Ratio or Interest Coverage Ratio
Fixed Assets Ratio
Debts to Total Funds or Solvency Ratio
Reserves to Capital Ratio
Capital Gearing Ratio
Proprietary Ratio
Accounting Ratios Formulas
Limitations of Ratios Analysis

 

 
 

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Financial Accounting Topics


  Introduction to Accounting
 ----------------------------------------------------------------------------
  Transactions and Accounting Equation
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  Analysis of Business Transactions
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  Journal, Ledger and Trial Balance
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  Accounting for Bills of Exchange
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  Special Journals
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  Cash Book
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Bank Reconciliation Statement
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  Final Accounts
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  Work Sheet
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  Capital and Revenue Items
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  Valuation of Inventories
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  Accounts of Non-profit Making Organizations
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  Statement of Cash Flows
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  Accounting Ratios Analysis
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  Depreciation, Provisions and Reserves
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  Accounting Dictionary
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  Financial Calculators
 
 
 
Managerial Accounting Topics

  Financial Statements
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  Cost Volume Profit Relationship
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  Variable Costing System
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  Materials and Inventory Cost Control
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  Activity Based Costing System
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  Standard Costing and Variance Analysis
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  Balanced Scorecard
----------------------------------------------------------------------------
  Capital Investment Analysis/Capital Budgeting
 
 

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