A lower number suggests efficient collection practices, while a higher number may signal potential cash flow issues. The average collection period is the time a company takes to convert its credit sales (accounts receivables) into cash. It provides liquidity to the company to meet its short-term needs or current expenses as and when they become due. The receivables turnover value is the number of times that a company collects payments from customers per year.
How average collection period affects cash flow
For one, it represents an average, meaning outliers—customers who pay exceptionally early or late—can skew the figure, offering a bookkeeping distorted view of your collection efficiency. Moreover, this average doesn’t provide a detailed breakdown by customer, so it’s not effective for identifying specific late payers who could be edging towards default. Once a credit sale happens, the customers get a specific time limit to make the payment. Every company monitors this period and tries to keep it as short as possible so that the receivables do not remain blocked for a long time. To reduce ACP, a company can improve its invoicing process, follow up on overdue payments more aggressively, and review credit policies to ensure they are effective.
- Average collection period (ACP) represents the average number of days it takes a company to receive payments owed to them from their customers after a service or sale occurs.
- The average collection period is an accounting metric used to represent the average number of days between a credit sale date and the date when the purchaser remits payment.
- Once a credit sale happens, the customers get a specific time limit to make the payment.
- The average collection period is often not an externally required figure to be reported.
- A lower average collection period usually means that a company has efficient collection practices, tight credit policies, or shorter payment terms.
- When assessing whether your average collection period is good or bad, it’s important you consider the number of days outlined in your credit terms.
How to calculate average collection period
Check it monthly or quarterly to ensure your collection process remains efficient and to detect trends early. Regular use, such as monthly or quarterly, is recommended to keep track of changes and trends in your receivables management. Explore the ideal timeframe for collecting receivables and understand industry benchmarks. Join the 50,000 accounts receivable professionals already getting our insights, best practices, and stories every month.
What is the formula for the average collection period?
Get the best stories, insights, and AR best practices delivered to your inbox every month. If the company decides to do the Collection period calculation for the whole year for seasonal revenue, it wouldn’t be just.
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Understanding the Average Collection Period Ratio
The average collection period ratio is a measure of the time it typically takes a business to receive payments owed by its customers. It’s calculated by dividing the average accounts receivable by the total net credit sales and then multiplying the calculate average collection period result by the total number of days in the period. This ratio provides insight into the efficiency of a company’s credit and collection policies.
From a timing perspective, looking at the Bookstime average collection period can help a company to schedule potential expenditures and prepare a reasonable plan for covering these costs. For example, the banking sector relies heavily on receivables because of the loans and mortgages that it offers to consumers. As it relies on income generated from these products, banks must have a short turnaround time for receivables.