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Average Collection Period

 

Average collection period is a financial ratio that is used to measure how fast company collects its receivables. ‘Average collection period’ shows what is the average time period till company gets cash payments for its sales.

 

This ratio is very informative for manufacturing or similar companies that sell their production or services to large clients. But average collection period ratio will not do much good for retailers or similar companies that trade with small clients with instant payment. 

 

Average collection period formula


(1) Average collection period ratio = (Receivables / Sales on credit) * 365 Days

 

* Receivables are account receivables from balance sheet. Because of seasonality it is more accurate to use average of receivables during the year. Sales on credit are equal to company’s sales revenue less sales for cash without crediting the clients.

 

(2) Average collection period ratio = 365 / Receivable turnover ratio 

 

When average collection period is analyzed, it should be compared to the same ratio of similar companies that are working in the same niche. However, there can be many reasons why collection period is different:

 

- It is a part of sales strategy.

- Receivables management (also working capital management) is not efficient.

- It is a peculiarity of a particular business.

 

Almost identical ratio to ‘average collection period’ is another ratio - ‘days sales outstanding’. The main difference is that ‘days sales outstanding’ can be applied not only annually but for any period chosen, which usually is a fiscal quarter. 

 






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