Hello all,
I was solving this question and need some help please.
Which of the following is an indication of a company is prematurely recognizing revenue compared to its competitors.
1-asset turnover is decreasing
2- receivable turnover is increasing
3-days sales outstanding is increasing
The answer was 3.
However, there was no clarity in the given if company’s sales are all on account or partly on cash and partly on account. So, let us say they have a big part of sales are on cash, prematurely recording advances from clients as revenues will increase the receivable turnover( more sales in numerator and not accompanied by same increase in receivables). Thus answer 2 will be correct here.
Please your views on the above @ S2000magician and others.
If companies prematurely recognize revenues then account receivables increase. DSO=( account receivables/ total credit sales) * number of days , if AR increases , DSO increases. However, AR turnover = net credit sales/ave.AR, it decreases when companies prematurely recognize revenues.
@Master2 We have to read these ratios as what is the relationship between the numerator and denominator (and not as standalone interpretations)
Receivables Turnover typically is = Sales/Receivables.
So, the lower the number of Receivables compared to Sales, the higher the ratio will be. Hence, increasing Receivables Turnover ratio means Receivables are decreasing, which is a good sign.
Day Sales Outstanding = Accounts Receivable / Net Credit Sales
So, increasing DSO means A/R has increased compared to credit sales. If Receivables are suspiciously high or increasing compared to a company’s sales (either a sign of deliquent customers, lazy collections or even worse, potential earnings manipulation).
