DSO & Average Days Delinquent: the AR metrics you need to track

These metrics are related, and together they indicate how effective your payments and collections process is, and whether you need to adjust current workflows.

First, let me take the time to explain each metric individually.

1Days Sales Outstanding (DSO)

DSO measures the average number of days it takes to receive payment for an invoice. It’s a metric that bluntly tells you how long it takes to get paid.

The calculation for DSO is (Accounts Receivable ÷ Credit Sales) × days in period.

Let’s say you want to look at the DSO for the previous 90 days. Ending Accounts Receivable is £28,390 and Credit Sales for the 90-day period are £54,290.

To state the obvious, it takes this business 47 days on average to receive payment for an invoice.

However, “days to pay” doesn’t tell the full story, and we need to understand how payment terms affect the result. That’s where Average Days Delinquent comes in.

2Average Days Delinquent

Average Days Delinquent (ADD) shows how late customers are, given their payment terms.

In the example above, if standard payment terms were two months (60 days), a DSO of 47 days would indicate an efficient collection process. However, not so much if standard terms were 30 days.

To calculate Average Days Delinquent, you first need to determine the Best Possible DSO. This is simply (Current Receivables ÷ Credit Sales) × days in period. Current Receivables are invoices owing but not yet overdue.

Let’s say Current Receivables (using the example above) are £17,400.

To then calculate Average Days Delinquent, the formula is Actual DSO minus Best Possible DSO. Using the example again: 47 − 29 = 18 days delinquent.

How to interpret Average Days Delinquent

If every invoice were paid on its due date, Average Days Delinquent would be zero. Therefore, if ADD is 1, each invoice is on average roughly 1 day late (or delinquent).

Unfortunately, buyers don’t pay every invoice by the due date. Ordinarily, Average Days Delinquent should be under 5 days.

5 to 15 days indicates that there is slippage, which can likely be improved through minor process adjustments such as automating payment notifications or offering digital payment options.

Beyond 15 days (as in the example) indicates larger issues, and a review of current processes is probably required. More significant action is needed, such as moving some buyers to Direct Debit or Pay on Delivery.

How to implement reporting

You should track DSO and ADD every month. The monthly figure should also be “rolling”, to soften the impact of any exceptional situations. A good rolling period is 90 days (the last 3 months).

So, on the last day of each month, the rolling DSO calculation is (Accounts Receivable on the last day of the month ÷ total Credit Sales in the last 90 days) × 90.

The reporting can be done manually via your accounting system (e.g. Xero, QuickBooks).

Alternatively, you can automate the reporting, with a trigger that sends the results to your inbox at the end of every month.