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DSO = Days sales outstanding - measures the time it takes a company to collect account receivables from credit sales. It provides a good understanding of the effectiveness of the account receivable collection policies and staff in charge of executing on those policies.The formula to calculate Day Sales Outstanding is:
(Total Receivables/Total Credit Sales) x Number of Days in the measurement period = Day Sales OutstandingExample of DSO:
Total Receivables = $5,000,000.00
Total Credit Sales = $10,000,000.00
Number of days in period = 90
(5,000,000.00/10,000,000.00) X 90 = 45 days (DSO)
In this example it takes 45 days (on the average) for the company to collect its account receivables.
It’s great to calculate day sales outstanding but the question is: What does the above number mean? The answer is there needs to be a “best practice” goal and that is what “Best Possible Day Sale Outstanding” is. This calculation looks only at current account receivables (current being what your policy states). Most companies like to have their account receivable policy at net-30 days. The formula for Best Possible Day Sale Outstanding is:
(Current Receivables/Total Credit Sales) X Number of Days = Best Possible DSO
Example of Best Possible DSO:
Current Receivables = $2,500,000.00
Total Credit Sales = $10,000,000.00
Number of days in period = 90(2,500,000.00/10,000,000.00) X 90 = 22.5 days (best possible DSO)
Best Possible DSO yields insight into delinquencies since it uses only the current portion of receivables. As a measurement, the closer the regular DSO is to the Best Possible DSO, the closer the receivables are to the optimal level. It helps to distinguish between length of selling terms and delinquency.
