Debtor Days

[IMEX Sourcing Services]

Hi,

I was just wondering, if someone could give me some ideas on what could be the reason for a company's debtor days ratio decreasing significantly from 30 day to 1 day in just one year. The balance sheet does show a large number of trade debtors, but what could be the reasons why this number shot down so significantly, especially in a retail business (that of John Lewis, contrasting 2004 with 2003)?

Any ideas welcomes

Ash

[Joyous]

Perhaps they've just started allowing purchases to be made on 30 days credit where they didn't before. An increase in debtor days is not always a bad thing.

Regards

Joy

[IMEX Sourcing Services]

Hi Joy,

Thank you very much for that. Actually that's the only reason even I could think of so far (Not taking the credit away from you of course), but wanted to add a few more probable reasons..More ideas welcome :)

Ash

[Rob]

You can’t look at the total debtor figure in isolation – it’s the relationship between sales and debtors and the trend between years that is important. You can assess this movement by calculating the debtor collection ratio.

This calculation assesses how efficiently debtors are collected and is based on how many days on average it takes the business to collect its debts. It's worked out as follows:

debtors / sales x 365 days


A company’s ratio could be:

2004: 15,600 / 425,000 x 365 = 13 days

2005: 21,300 / 450,000 x 365 = 17 days

In this example, in 2004 on average it took the company 13 days to collect its debtors. However, by 2005, this had deteriorated to 17 days. This raises the question, why, which is the crux of your post – under what circumstances can this happen? It’s important for business owners to know about such movements because a deterioration in debtor collection can have an impact both on cash-flow and the working capital cycle in that cash is not being made available as quickly as before.

There could be a number of reasons for the change:

1) Business has increased so much that the owner has become lax in debtor collection – generally less efficient as the key people concentrate on other areas of the business

2) The accounts department may have lost an important person, someone who kept a tight control which has now been lost. Unlikely for such a large business such as this

3) As mentioned in previous posts it may be a specific change of policy i.e. in order to attract more business, longer credit terms were offered. In this case the slippage can be seen as positive as long as the effect on cash flow and the working capital cycle is understood and planned for. For a retail outlet, where nearly all the business is done on a cash basis, this is unlikely though

4) There could be debtors who have been outstanding for a long time thereby distorting the ratio. For example a debtor may be having financial problems and has not paid up. This can therefore increase the average number of days. To better understand if this is the case, a review of the aged analysis of the debtor book would be useful. An aged analysis shows the money owed broken down into how much is outstanding for less than 30 days, 60 days and over 90 days. This is a good test of anyone’s debtor collection process!

Obviously, by looking at the overall debtor total, you don't know how well spread the number of debtor's are. By that I mean how many individual debtors there are in total.

In this case, given the business John Lewis is in and the fact it’s a cash business, I suspect they must have done a sizeable deal to supply a bulk order. The invoice remained outstanding over the year-end so resulted in a huge jump in the debtor book. But without seeing the sales figures that only an educated guess!

For those of you who have sizeable businesses it’s an interesting ratio to calculate. There are a number of other ratios you can work out to assess the health of your business. If anyone wants a list and how to calculate them then drop me a note.

[Ian J]

In this case, given the business John Lewis is in and the fact it’s a cash business, I suspect they must have done a sizeable deal to supply a bulk order. The invoice remained outstanding over the year-end so resulted in a huge jump in the debtor book.

The turnover of the Jown Lewis group is about £5.3billion so it must have been a very large deal :lol:

[IMEX Sourcing Services]

Hi,

Thanks for all the advice. The reason in this particular case, was the disposal of their account card operation.

Ash

[Ian J]

If that is the case it shouldn't be under "trade debtors" as that account is for goods sold in the ordinary course of business.