Most businesses make a large proportion (or even all) of their sales on credit. Debtor days is a measure of the average time payment takes. Increases in debtor days may be a sign that the quality of a company's debtors is decreasing. This could mean a greater risk of defaults (so it does not get paid at all). It could also be an indicator that cash flow is likely to weaken or that more working capital will be required.
This ratio is commonly expressed in one of two forms. One is debtor collection days, the number of days debtors take to pay:
(trade debtors ÷ sales) × 365
The other is the percetage of sales still unpaid:
(trade debtors ÷ sales) × 100
Generally lower debtor days numbers are better. Comparisons for the same business over different periods of time are the most often used. Comparison of companies in different sectors are rarely meaningful as the differences are usually largely the result of the nature of different businesses.
Even within sectors different companies with different types of business will have different business models that naturally lead very different debtor days. For example, retailers selling only for cash have no trade debtors, but within the same sector there are retailers who specialise in selling on credit, who therefore have high debtor days and working capital.
Investors should be aware of why changes in debtor days are happening, especially if there is a very large increase or a clear long term increasing trend. It may reflect a change in how the business operates, or its environment. This is not necessarily bad, but it can be an indication of a potentially serious problem.