Days sales outstanding, abbreviated as DSO is an indication that is used for figuring out the effectiveness of a company’s collection efforts and credit efforts in allowing credit to clients and the capacity to collect from them.
DSO is calculated quite easily and there isn’t any specific ratio you need to use. Simply divide the total accounts receivable during a certain time period by the total net credit sales and multiply the result by the number of days in that time period.
You can use a monthly, quarterly, or annual time frame which will help you see both short and long-term effectiveness in collecting its receivables. If a company has a high DSO, it can be a sign of low cash flow. A low DSO, on the other hand, is what shows that the company gets its receivables much faster.
DSO Equation Example
Here is an example of DSO you can use for your business. Take your calculator and do the math for yourself. It’s super easy for any accountant.
Assume the sales revenue for a company is $1.25 million. Out of this revenue, $750,000 were credit sales, and the remaining $500,000 is cash sales.
Accounts receivables divided by net credit sales multiplied by the number of days.
In this example, the accounts receivable balance as of month-end closing is $800,000 and finally with that, the DSO of the company is about 18. This means that it takes the company 18 days to collect receivables.
It’s always going to be in the best interest of any accountant is to import every data regards to DSO into Excel or Google Sheets. This will help you figure out how well the company is performing to collect its receivables.
If the ratio of the company’s DSO is something that fluctuates, know that DSO above 45 is generally considered high. It can sometimes fluctuate but it shouldn’t go too higher than 45. If it does though, it’s going to be something that the company should keep up with as it can result in reduced cash flow.