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Debtor Days Ratio
In recent newsletters, we’ve looked at different profitability ratios in an attempt to help you better familiarise yourself with your business’ numbers and understand some of the insights these quick calculations can offer.
This edition, we’re talking debtor days.
For businesses that provide goods or services on credit, your debtor days figure tells you the average number of days that pass before your business receives payments from your customers (your debtors). As with profitability ratios, debtor days are impacted by the industry you’re in, the size of your business and the size and nature of your various debtors, and so what is normal for your business may well and truly be abnormal for someone else’s.
Knowing your debtor days is important for cashflow reasons. A larger number of debtor days means you are waiting longer to be paid than a business with a smaller debtor days average. Where cashflow is critical to you being able to run your business – for example, in order to cover payroll costs or purchases – you will want to keep a firm eye on your debtors and do all that you can to encourage your customers to pay promptly. Some businesses offer their customers a small discount on invoices that are paid upfront or within a specific period of time, for instance.
Most (if not all) invoices will tell you a business’ trading terms and so it’s worth considering if your trading terms are aligned to your cashflow needs. For example, our trading terms are net 7 days of invoice. We typically pay our expenses on a weekly basis and so that payment cycle works well for us. Other businesses, however, may have trading terms of 14 or 30 days. Large companies often insist that for them to do business with you, they need trading terms of 60 or even 90 days. If that customer is large and/or important enough to you, you might be in a position where you choose to accept that longer payment cycle – despite it meaning you’re waiting up to three months to see your money – because the overall benefit of trading with that customer outweighs the pain of not having access to your money sooner. And of course, since life is busy, some customers will occasionally forget to pay you on time, and others may not be able to pay you at all.
One way to calculate your debtor days is to simply divide your average accounts receivable amount by your annual credit sales before multiplying the total by 365 days.
Debtor days = (Accounts receivables / Annual Credit Sales) x 365 days
Put into numbers, this might look like:
Debtor days =
(Accounts receivable of $32,460 / Annual Credit Sales $495,000) x 365 days
= (0.0656) x 365 days
= 23.94 debtor days
As with other ratios, your debtor days should be compared by way of industry benchmarks to understand where the metric tracks in your industry. If you do your math and, on average, your trading terms are net 14 days but your debtor days calculation works out to be closer to 28 or 30 days, you then know you’ll be waiting a month on average before your debtors pay you. That reality will have flow on consequences for how you manage your business’ money. If a shorter payment cycle is important to you, you might consider modifying your trading terms to encourage faster payments.
Asked & Answered
Receipts Record Keeping
Question: We employ in excess of 50 employees, some of whom travel for business-related reasons. Whilst travelling, our staff will incur a range of expenses on the company’s behalf, however, they aren’t always great about keeping receipts. More specifically, it’s being able to claim the GST on smaller, low-value purchases that seem to be the biggest problem as anything large is emailed directly through to our accounts team.
Aside from putting the proverbial “Fear of God” into our traveling reps when it comes to receipts, what else can we do to make that compliance activity easier on everyone? Our in-house accounts staff don’t particularly enjoy picking through bags, boxes and half-torn envelopes of crumpled up paper. Do we really need to make a big deal about it all given the majority of our low-value expenses are under $82.50?
Answer: The amount of $82.50 is a bit of a “magic number” in that the A New Tax System (Goods and Services Tax) Act 1999 specifies at Sub-section 29-80(1) that there is “no obligation to hold a tax invoice for low value transactions” and Regulation 29-80.01 of the A New Tax System (Goods and Services Tax) Regulations 1999 subsequently defines low value transactions as those of a GST-inclusive price of $82.50 or less for most supplies.
Does that mean that your employees should flat out forget about receipts for expenses under $82.50? No. Not by a long shot.
The Tax Office is quite clear that in order to be eligible to claim the GST connected to these expenses, a few conditions still apply. You either need:
- a tax invoice or an invoice (where GST is not required to be charged);
- a cash register docket; or
- a receipt.
Where you can’t get one of those, you’re required to notate the purchase (by email or in a diary) instead and include:
- the name and ABN of the supplier;
- the date of purchase;
- a description of what was purchased; and
- the total amount paid.
You’ll then obviously need to maintain a record of these diary entries to use as substantiation. Frankly, we think it’s just easier to get a receipt!
But what about that pesky paperwork nobody wants to do? Well, thankfully app developers share our pain and there are now a multitude of record keeping apps (including your phone’s camera) that can help you record and store this important information. Then, it’s merely a matter of uploading your records into your MYOB or Xero file, or emailing scans/photos of your soft copies to your accounts people or bookkeeper/accountant who can file away the images as needed. Software such as Dext (formerly Receipt Bank) is also helpful, as is Slyp, for merchants registered with them, as Slyp will provide tax invoices directly to your mobile banking app or via text message.
For individual taxpayers and sole traders, the Tax Office’s record keeping app is called myDeductions and is free to download via the ATO website here.
For more information or help with anything you’ve read here today or tax or accounting issues in general, please email firstname.lastname@example.org or phone us on (08) 9221 4100. We’re always happy to hear from you.