DSO stands for days sales outstanding, and it’s used to determine the number of days a company takes to collect the payment after a sale on average. This can be performed on a monthly, quarterly, or annual basis.
Poor cash flow is a common cause of bottlenecks for businesses, and it can lead to disastrous results like bankruptcy. Figuring out your days sales outstanding (DSO) can shine a light on the source of the issue.
So, what is DSO? In this guide we’ll simplify exactly what it is, how to apply it to business operations, and how a business can improve upon it, if needed.
The longer it takes a company to be paid, the more they stand to lose. That’s because the company misses out on the opportunity to use that money for their own ends, whether it be paying overhead costs or reinvesting into the business. In other words, a dollar today is worth more than a dollar in 60 days.
Calculating DSO helps companies stay aware of these timelines by measuring how many days it takes to receive payments over any given period. It takes just four steps to calculate DSO:
Comparing a DSO calculation to previous periods can assist in finding market trends, enabling companies to anticipate customer performance, such as late payments.
Look to the example below for a walk-through on how to calculate DSO:
Company X has $300,000 in credit sales and $50,000 in accounts receivable for the first three months of the year.
How would Company X measure their DSO for this period?
First, they’d need to divide the accounts receivable by the credit sales:
Then they’d multiply that value by the number of days in January through March:
Company X’s DSO for this period is 15.3.
In general, companies are always looking to reduce their days sales outstanding to the lowest possible figure, in light of their customers ability and willingness to pay. This shows that their processes are efficient, resulting in more timely payments.
A high DSO number results in lower cash flow for the company. Companies in this situation should look at ways to improve their collections processes so they can increase their liquidity.
The size of a company within an industry is also important to note. A small business is more likely to operate on tight cash flow than a large, well-established corporation, so comparing their DSOs is not as practical.
See how your business compares to the average DSO in your industry by looking to the chart below:
If your current DSO is not where you want it to be, there are some practices you can implement to improve your credit process and encourage on-time payments:
Identifying DSO is only part of the battle when it comes to improving how quickly your company gets paid. Using a service like Nuvo can help resolve multiple pain points through automation and background checks. Learn more about what we can do for your business.
DSO is an important concept in business operations. Below are answers to some common questions.
Companies often strive for the lowest DSO possible, but what’s considered “good” is largely dependent on the industry in which they operate. Companies working with perishable goods often need a lower DSO than industries that operate with a longer shelf life.
Tracking your company’s DSO is like diagnosing a symptom of a greater issue. As your DSO changes, you’ll know whether the changes you’ve made within your company are having a positive or negative impact.
DSO is generally considered an important KPI. The DSO formula is applicable to all industries and can be used to compare the performance of one company to its competitors or the wider market.
Other important KPIs for businesses to take note of include:
Collection effectiveness index: measures the percentage of receivables that are successfully collected over a set period of time.