Debtor days refers to the average number of days required for a company to receive payment from its customers for invoices issued to them. A larger number of debtor days means that a business must invest more cash in its unpaid accounts receivable asset, while a smaller number implies that there is a smaller investment in accounts receivable, and that therefore more cash is being made available for other uses.
The size of the debtor days experienced by a company is driven by a number of factors, including the following:
- Industry practice. Customers may be accustomed to paying after a certain number of days, irrespective of what the seller demands as its payment terms.
- Early payment discounts. A company may offer substantial discounts in exchange for early payment, in which case the cost of the discounts must be considered.
- Billing errors. If a company issues incorrect invoices, it can take a substantial amount of time to correct these billing errors and be paid.
- Credit practices. If the credit department issues excessive credit to customers who are clearly unable to pay, this will increase the number of debtor days.
- Investment in collections staff. The amount of money, training time, and technology aids invested in the collections staff correlates closely to the amount of cash collected in a timely manner.
The calculation of debtor days is:
(Trade receivables / Annual credit sales) x 365 days
For example, if a company has average trade receivables of $5,000,000 and its annual sales are $30,000,000, then its debtor days is 61 days. The calculation is:
($5,000,000 Trade receivables / $30,000,000 Annual sales) x 365 = 60.83 Debtor days
The number of debtor days should be compared to that of other companies in the same industry to see if it is unusually high or low. Alternatively, the measure can be compared to benchmark companies located outside of the industry to obtain the highest possible target figures to set as goals.