Days sales outstanding (DSO) is among one of the most popular accounts receivable metrics tracked by businesses, and while it is indeed a valuable one, there is a right way and a wrong way to interpret it as a part of your accounts receivable performance puzzle.
That is not to say that DSO is not important; it absolutely is provided you review it in the right context.
Because the days sales outstanding calculation is heavily impacted by revenue numbers and because sales change from one month to the next, it is a highly volatile metric which should never be the end-all-be-all of benchmarking the health of your receivables.
Because of its tendency to fluctuate, analyzing DSO on a period less than a year can be misleading. Looking at DSO on a daily basis, even on a monthly basis, is not going to give you a realistic view of what’s happening long term in your collections department. What DSO is on any given day or month is not as important as what it looks like over the course of a year or more.
One method for looking at DSO in the long-term is to decide on a range of where you want DSO to fall over a 12 month period. Take each month’s DSO and graph the monthly averages with a trend line through the middle. Does it stay within your range? That will show you the overall impact your daily collection efforts are having and whether you’re on target for your goals. This graph can also be a very useful way to update sales managers, CFOs and other executives about the current state of accounts receivable.
A few other things to remember:
- Always look at your DSO with context with your company’s terms.
- Don’t forget to research your industry and find an average DSO to benchmark with.
- Compare DSO with your best possible DSO, the formula for which is (Current receivables x number of days in period) / credit sales for period – the closer DSO falls to this number the better.
- Always look at DSO as it interacts with other key metrics.
Days sales outstanding not quite where you want it do be? There are many ways you can improve your metrics. For example, updating your credit policy, using proven communication templates, or having the right number of employees focused on specific tasks.