How Much Accounts Receivable Should You Have?
A Guide for Growing Businesses
If your business is experiencing steady growth, congratulations! But with an expanding client base, you might also be wondering how much accounts receivable (AR) is too much? After all, a healthy AR balance keeps your cash flow running smoothly, but excessive receivables can tie up critical funds.
Here at Penny Empire, we understand the delicate dance between growth and maintaining a healthy financial position.As a business with at least 20 staff members and $5 million in annual revenue, you likely have a credit sales model in place. This means you're extending credit to customers, and so it's natural to have some outstanding invoices.
The key is to find the ideal balance between risk and reward. Here are some factors to consider:
Industry Benchmarks: Research typical Accounts Receivable Turnover Ratio (ARTR) for your industry. This ratio measures how efficiently you collect payments. For example, an ARTR of 6 indicates it takes you, on average, 60 days to collect on invoices.
Credit Policy: Having a well-defined credit policy that assesses customer creditworthiness and sets clear payment terms is crucial. This helps mitigate risk and establishes expectations with clients upfront.
Collections Process: An efficient collections process ensures timely follow-up on overdue invoices. Streamlining this process can significantly impact your AR turnover.
Customer Payment History: Analyze your customer payment history. Are there repeat offenders who consistently pay late? This might necessitate stricter credit terms or collection actions for such clients.
Here's a general guideline to get you started (remember, this is a starting point, and industry specifics can influence your ideal AR balance):
Target AR turnover ratio: 5-10 (This translates to collecting your outstanding invoices within 36-72 days on average)
Average daily sales: Divide your annual revenue by 365 days to arrive at your average daily sales.
Ideal AR balance: Multiply your average daily sales by your target AR turnover ratio. For example, with a $5 million annual revenue and a 30-day target collection period (ARTR of 12), your ideal AR balance would be around $1,388,888.89 (assuming 365 days a year).
Remember, this is just a starting point. Penny Empire can help you fine-tune your AR management strategy. We offer a suite of services designed to:
Optimize your AR turnover ratio: Our team can analyze your AR data and suggest strategies to improve collections efficiency.
Develop a custom collections process: We can help design a process that fits your business needs and ensures timely follow-up on overdue invoices.
Reduce bad debt: Our comprehensive approach minimizes the risk of bad debt and protects your bottom line.
Don't let your accounts receivable become a burden on your growth. Contact Penny Empire today for a free consultation and learn how we can help you achieve optimal AR health.