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Debtors Turnover Ratio

It is calculated as:

    net credit sales
closing sundry debtors

This ratio indicates the speed at which the sundry debtors are converted in the form of cash. However, this intention is not correctly achieved by making the calculations in this way. As such, this ratio is normally supported by the calculations of Average collection period, which is calculated as below:

(a)    Calculation of daily sales:  net credit sales
                                                       no. of working days

(b)    Calculation of average collection period: closing sundry debtors
                                                                                             daily sales

Following propositions should be kept in mind:

1.    As the concept of sundry debtors does not come into the picture in case of cash sales, while computing average collection period, only credit sales should be considered. However, in practice, break up of cash sales and credit sales may not be considered for the computation of this ratio.

2.    While considering the total amount of debtors, the bill receivables should be considered along with the debtors. Further, debtors not arising out of the regular sales transactions should be excluded as far as possible. For example, debtors for the sale of fixed assets.

3.    In some cases, while computing this ratio, average sundry debtors instead of only closing sundry debtors may be considered.

4.    For the calculation of daily sales, it is customary to consider 360 days in a year instead of 365 days in a year. In some cases, it is also argued that weightage should be given to the holidays also when there are no business transactions.

The average collection period as computed above should be compared with the normal credit period extended to the customers. If the average collection period is more than normal credit period allowed to the customers, it may indicate over investment in debtors which may be the result of over-extension of credit period, liberalisation ineffective collection procedures and so on.

However, before drawing the conclusions like this, the factor of distribution of sales throughout the year should be considered carefully. In other words, if the credit sales are not evenly distributed throughout the year, the result obtained from the computation of average collection period may be misleading. The computation average collection period will be made as below:

a.    Calculation of daily sales:
=   net credit sales
   no. of working days


= $ 1000 per day

b.    Calculation of average collection period:
closing sundry debtors
               daily sales


= 360 days

The average collection period thus calculated may then be compared with the normal credit period allowed to the customers i.e. 60 days and the conclusion may be drawn that there is a large on the part of collection department to collect the dues in time which may be a misleading one, as the outstanding sundry debtors represent the debts which are not yet due for payment.

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