What Is the Average Collection Period, and How To Calculate It?

Check out this on-demand webinar featuring Versapay’s CFO for insights on the crtical metrics you should be focusing on today. Calculators and templates designed for the Average Collection Period can be powerful allies in your financial toolkit. They not only streamline the computation process but also ensure greater accuracy by minimizing the risk of manual errors. Many online finance platforms and accounting software include built-in calculators that can automatically pull and process the required data from your accounting records. We’ll use the ending A/R balance for our calculations here and assume the number of days in the period is 365 days.

Does Financial Literacy Impact Accounts Receivable Turnover Rates?

• It’s essential that the selected time frame for the beginning and ending accounts receivable corresponds to the period for which you want to calculate the average collection period.
• By understanding the factors that influence this metric and implementing strategies to optimize it, businesses can ensure they have enough cash to meet financial obligations and invest in future growth.
• Monitoring this figure regularly helps you track how efficiently your company converts receivables into cash.
• To do that, take the value of your receivables at the start of the period plus the value of the receivables at the end of the period and divide the sum by two.
• Eventually, if a business fails to collect most of its sales on time it will experience cash shortages, which will force it to take debt to pay for its commitments.
• Additionally, administrative systems should provide the Billing Team with reminders of due invoices, to prompt them to follow up in order to reduce the ratio.
• For the second formula, we need to compute the average accounts receivable per day and the average credit sales per day.

When you log in to Versapay, you get a clear dashboard of the current status of all your receivables. Your entire team can access your customers’ entire payment history, giving you a clear picture of your collection efforts. This is one of many accounts receivable KPIs we recommend tracking to better understand your AR performance. And while no single metric will give you full insight into the success—or lack of success—of your collections effort, average collection period is Retained Earnings on Balance Sheet critical to determining short-term liquidity.

Cash Application

• A shorter collection period is generally preferred as it means that cash is being received more quickly, which can be used for reinvestment or to cover operational costs.
• Not only does the ACP value provide important insights into the company’s short-term liquidity and the efficiency of its collection processes, but it can even be used to catch early signs of bad allowances.
• The Average Debtor Collection Period formula calculates collection efficiency by dividing Average Accounts Receivable by Net Credit Sales, multiplied by 365 days.
• According to a 2023 study by the Credit Research Foundation (CRF), companies with efficient collection periods maintain an average of 45 days across industries, impacting their working capital efficiency.
• This ratio measures how quickly customers are paying their invoices and whether your net terms policy is being followed.
• By considering the perspectives of different stakeholders and employing a mix of strategies, companies can effectively shorten their collection times and bolster their financial standing.

Average Collection Period is a vital metric that gives insight into your company’s ability to convert credit sales into cash, impacting everything from liquidity to credit policy. They can be customized to your specific needs and often come with pre-programmed formulas to make calculations as simple as inputting your net credit sales and average accounts receivable figures. These resources save time and provide a consistent format for analyzing trends over periods. Using this calculation, you can discover how long it takes to collect from the time the invoice is issued to the time you get paid. If the number is on the high side, you could be having trouble collecting your accounts. A high average collection period ratio could indicate trouble with your cash flows.

What Is the Average Collection Period, and How To Calculate It?

This comparison includes the industry’s standard for the average collection period and the company’s historical performance. When disputes occur, there is often a string of back and forth phone calls that draws out the process of coming to an agreement and getting paid. Collaborative AR automation software lets you communicate directly with your customers in a shared cloud-based portal, average collection period ratio helping you resolve these problems efficiently. When there’s an issue with an invoice, your customer can leave a comment directly on the invoice or proceed with a short payment and specify why. Instead of having to remind your customers to pay with dunning letters and phone calls, you can deliver automated reminders before and after an invoice is due. In Versapay, you can segment customer accounts send personalized messages prompting your customers to remit payments on time.

You can also compare your ratio to other similar businesses and decide whether or not you need to make improvements. Knowing your average collection period ratio gives you the power to manage it, says https://www.hamilton-properties.com/ach-vs-wire-transfer-whats-the-difference-ach-vs Randal Blackwood, Vice President, Financing and Advisory at BDC. Striking the right balance ensures that your business can maintain liquidity, meet financial goals, and foster long-term customer loyalty.

• The operating cycle, also known as the cash conversion cycle, is important to understanding a company’s cash flow and working capital management.
• So, let’s say they ran the numbers and discovered that their average collection period ratio in 2019 was 27.98 days, and in 2020 was 56 days.
• Proactive collections approaches also pay dividends; establish clear communication channels with customers and follow up promptly on overdue accounts.
• According to the Financial Executives Research Foundation (FERF) 2024 Working Capital Study, companies maintaining collection periods under 45 days achieve 40% better cash flow management.
• Alternatively, it could highlight inefficiencies in the company’s collection process or suggest that customers need help with financial difficulties that prevent them from paying on time.