![]() As a company processes receivable balances faster, it gets its hand on capital faster. ![]() How well a company is collecting credit sales.There is no ‘rule of thumb’ or ‘standard’ which may be used as a norm while interpreting this ratio as the ratio may be different from firm to firm depending upon its credit policy, nature of business and business conditions. But a precaution is needed while interpreting a very short collection period because a very low collection period may imply a firm’s conservative policy to sell on credit or its inability to allow credit to its customers (due to lack of resources) and thereby losing sales and profits. Moreover longer the average collection periods, larger are the chances of bad debts. Similarly, a higher collection period implies as inefficient collection performance which in turn adversely affects the liquidity or short-term paying capacity of a firm out of its current liabilities. Generally, the shorter the average collection period the better is the quality of debtors as a short collection period implies quick payment by debtors. The average collection period ratio represents the average number of days for which a firm has to wait before its receivables are converted into cash. ![]() Interpretation of Average Collection Period Ratio: The average collection period represents the average number of days for which a firm has to wait before its receivables are converted into cash.įind out (a) Debtors Turnover, and (b) Average collection period from the following information: This ratio should be compared with ratios of other firms doing similar business and a trend may also be found to make a better interpretation of the ratio. There is no ‘rule of thumb’ which may be used as a norm to interpret the ratio as it may be different from firm to firm, depending upon the nature of business. Similarly, low debtors turnover implies inefficient management of debtors/sales and less liquid debtors.īut a precaution is needed while interpreting a very high debtors turnover ratio because a very high ratio may imply a firm’s inability due to lack of resources to sell on credit thereby losing sales and profits. Generally, the higher the value of debtors turnover the more efficient is the management of debtors/sales or more liquid are the debtors. Interpretation of Debtors Turnover/Velocity:ĭebtors velocity indicates the number of times the debtors are turned over during a year. Two kinds of ratios can be computed to evaluate the quality of debtors: (a) Debtors/Receivables Turnover or Debtors Velocity: ![]() Hence, the liquidity position of a concern to pay its short-term obligations in time depends upon the quality of its trade debtors. Trade debtors are expected to be converted into cash within a short period and are included in current assets. But the effect of a liberal credit policy may result in tying up substantial funds of a firm in the form of trade debtors (or receivables, i.e., debtors plus bills receivables). The volume of sales can be increased by following a liberal credit policy. Credit is one of the important elements of sales promotion. Meaning of Debtor’s Turnover Ratio:Ī concern may sell goods on cash as well as on credit. Let us make an in-depth study of the meaning and types of debtors turnover ratio.
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