Average Collection Period: Explained
Hi there fellow finance enthusiasts! As someone who has spent a considerable amount of time digging through financial statements and crunching numbers, there's one metric that I've often found myself coming back to - the average collection period.
Now, I know what you might be thinking - "wow, that sounds incredibly boring". But trust me, understanding your company's average collection period is essential for any business owner or finance professional.
At its core, the average collection period is a measure of how long it takes for a company to collect its accounts receivable. In simpler terms, it shows you how long it takes for your customers to pay their bills.
So why does this matter? Well, a high average collection period can indicate that your company is struggling to collect payments from customers, which can ultimately lead to cash flow issues and financial instability. On the other hand, a low average collection period means that your customers are paying you quickly, which is a good sign for your company's financial health.
The formula to calculate the average collection period is as follows:
Average Collection Period = (Accounts Receivable / Total Credit Sales) x Number of Days in Period
For example, let's say that your company had $100,000 in accounts receivable and $500,000 in total credit sales over a 90 day period. The calculation would be:
Average Collection Period = ($100,000 / $500,000) x 90 days = 18 days
This means that, on average, it takes your company 18 days to collect payments from customers.
There are a few factors that can impact a company's average collection period:
If you find that your company's average collection period is higher than you'd like it to be, there are a few steps you can take to improve it:
If you've made it this far, congrats! Understanding the average collection period may not be the most glamorous aspect of finance, but it's a crucial metric for any business owner or finance professional to know. By keeping an eye on your company's average collection period and taking steps to improve it, you can ensure that your company stays financially healthy and stable.
Thanks for reading, and happy number crunching!