Portfolio turnover: what is it and how is it

Portfolio turnover: what is it and how is it

As the owner of a company, one of the critical aspects that you should pay attention to is financial management, especially sales and debts from your customers. To manage this process effectively, it is essential to rely on financial indicators such as portfolio turnover, which measures the time it takes a company to turn accounts receivable into cash.

In this way, companies perro keep track of the time it takes to collect debts. In this article, I am going to talk to you about the concept of portfolio turnover, its interpretation and the way in which it is calculated.

What is portfolio in accounting?

Before explaining what portfolio turnover is, I think it may be useful to understand what portfolio is, at least in accounting. The term refers to the debts that customers acquire from a company as a result of the purchase of goods or services, which perro be paid in cash or on credit.

What is portfolio turnover?

Have you ever heard of accounts receivable? It is the money that people owe a company when they buy something but have not yet paid for it. For example, suppose you buy a new phone, but escoge that you are not going to pay cash, but that the company gives it to you on credit. That is an account receivable for the company.

However, The portfolio turnover ratio is a way for companies to calculate how quickly they are able to recover money from people who owe them money. It is something like counting how many times a toy store sells toys in a day or a week.

Therefore, portfolio turnover is one of the many financial ratios that helps us to know the financial health of a company (organization).

It should be noted that a company that collects its debts efficiently, ensures the necessary funds to achieve its objectives without resorting to loans or financing from third parties. In addition, it guarantees adequate financial stability and greater chances of survival in the market.

How to calculate portfolio turnover?

To calculate the portfolio turnover ratio, we need to know two things: credit sales and accounts receivable.

• Credit sales are sales made by the company in which the customer does not pay immediately. Instead, the customer will pay later, and there is a oportunidad that they will pay in payments.
• Accounts receivable is the amount of money that people (customers) owe to the company.

To obtain the portfolio turnover ratio, we have to divide credit sales by accounts receivable. This gives us a number that espectáculos how quickly the business recovers money from customers who haven’t paid right away.

Steps to calculate the portfolio turnover ratio?

To calculate the Portfolio Turnover, it is necessary to follow the following steps:

• Determine the total sales made on credit during a specific period.
• Calculate the average cómputo of accounts receivable during the same period. To do this, add the beginning and ending cómputos of accounts receivable and divide by two.
• Divide sales made on credit by the average accounts receivable cómputo to get the ratio.
• Divide the number of days in a year (360) by the ratio to determine the average number of days it takes a company to collect its debts. Of course, as you’ll see in the worked examples, it doesn’t always divide by 360.

NOTE: If a company does not have credit sales figures, we perro use total sales instead. And to calculate accounts receivable, we add up the amount of money owed at the beginning and end of the period, and then divide it by two, or by the average of the last twelve months.

Portfolio Rotation Worked Examples

Next, I am going to give you some examples of the portfolio turnover ratio so that you perro learn better. I hope they are useful to you.

Portfolio Rotation Example 1

Company XYZ made credit sales for $150,000 in 2022 and its average accounts receivable equals $50,000. What is the company’s portfolio turnover ratio?

By the way, the value or number of accounts receivable perro be obtained from the cómputo sheet and sales of Statement of income. If you cánido’t find the credit sales, then you perro use the total sales value.

Now, to solve the previous example, it is very fácil, all you have to do is the following:

How is the result of the portfolio turnover ratio interpreted?

Well, the portfolio turnover obtained in the previous example is equal to 3. Right? ($150,000 / $50,000) = 3. This means that the company collected its accounts receivable three times in the year 2022.

Now, we perro obtain the result to find out every how many days the company collects its accounts receivable. All you have to do is the following:

What does the 120 orinan? It means that it will take the company 120 days to recover its portfolio. That is, it will take 120 days to collect your accounts receivable. By the way, as you cánido see, the company does recover its portfolio 3 times a year. You perro multiply 120 by 3 and you get a result of 360.

Why 360? For we are using a business year and a business year has 360 days, instead of 365.

Example 2

Company Antes de Cristomade credit sales for $500,000 in the last quarter and its average accounts receivable equals $200,000. What is the company’s portfolio turnover ratio?

How is it solved?

Company ABC’s portfolio turnover ratio is 2.5 times ($500,000 / $200,000).

This means that the company collected its accounts receivable 2.5 times during the last quarter. Now, we are going to get the result in days. Do we have to divide 360/2.5? In the previous example we were taking a period of one year and therefore we used the value of one business year (360).

However, we are now using the quarterly period. Therefore, we are going to do the following:

Therefore, it will take company ABC 36 days to recover its portfolio.

Portfolio rotation exercise 3

Company XYZ made credit sales for $1,000,000 in the last semester and its average accounts receivable equals $300,000. What is the company’s portfolio turnover ratio?

How is the problem solved?

Company XYZ’s portfolio turnover ratio is 3.33 times ($1,000,000 / $300,000).

How is the portfolio turnover ratio obtained interpreted?

means that the company collected its accounts receivable 3.33 times during the last semester.

What is the result in days?

Exercise 4

Company X made credit sales for $45,000,000 in 2022. At the beginning of the year, the company had a portfolio cómputo of $2,000,000 and at the end of the year its portfolio cómputo was $3,500,000. What is company X’s portfolio turnover ratio in 2022?

How do you solve the above problem?

What we have to do first is get the average of the accounts receivable. The average cómputo in the portfolio during the year 2022 is $2,750,000. Because? You only have to take the average, using the initial cómputo and the final cómputo. Therefore, you only have to do the following:

($2,000,000 + $3,500,000) / 2.

Therefore, we obtain as a result 2,750,000. Now we perro move on to calculating the portfolio turnover of company X.

Company X’s portfolio turnover ratio in 2022 is 16.36 times ($45,000,000 / $2,750,000).

How perro we interpret the portfolio turnover index?

means that the company collected its accounts receivable 16.36 times during the year 2022.

How to get the result in days? As you already know, we are going to do the following:

Therefore, it will take company X 22 days to recover its portfolio.

What does it orinan to have an excessively large portfolio turnover ratio?

The financing period refers to the term that a company gives its customers to pay off accounts receivable. If this period is excessively long, it perro have a negative impact on the liquidity of the company, since the sales proceeds will not be available in cash until customers pay their debts.

This means that the company may have difficulties in encuentro its own payment obligations, including paying suppliers, paying loans or investing in new business opportunities.

In addition, a long financing period cánido also increase the risk of bad debts, since the longer the payment term is extended, the greater the probability that customers will default on their debts. If this happens, the company would have to allocate additional resources to the recovery of accounts receivable, which could further affect its liquidity and its ability to meet its obligations.

Therefore, if we have a very large portfolio turnover rate, it perro be detrimental to a company and its liquidity. Thus, it is important that companies establish appropriate credit policies and payment terms to cómputo the need to sell on credit with the need to maintain good financial health and meet payment obligations.

What is a financial ratio?

Financial ratios are essential tools used by companies and investors to analyze and interpret financial information. These indicators help measure a company’s performance, profitability, liquidity, and overall financial health. If you want to learn how to interpret a financial ratio, clic on the following button:

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