Average Collection Period

  

If you are wondering why your business is always short on cash, you might take a look at your average collection period. This is the average number of days between the date that you make a sale on credit and the date you actually get the money in your hands.

The lower the average the better, although you might be annoying your customers if you offer less than 30 days’ payment terms. So it’s always a good idea to compare your average with that of the competition.

One way to calculate your average collection period is to take the average accounts receivable balance for a year and divide that by your credit sales per year. To get the average accounts receivable balance take the AR number at the beginning of the year, add the AR balance at the end of the year and divide by 2. So if your balance is $40,000 at the beginning of the year and $20,000 at the end of the year, add them together and divide by 2 to get $30,000. Then divide that by your total net sales of $300,000 per year and multiply by 365 days to the average collection period of 36.5 days. Not too bad.

Some companies offer a 1%-2% discount for paying on time, while others get on the phone and make friendly collection calls so that they are able to pay their own bills.

Related or Semi-related Video

Finance: What are Collection Agencies?12 Views

00:00

Finance, a la shmoop. What are collection agencies?

00:06

All right so sometimes when a man and a woman have trouble getting pregnant well [A couple kissing]

00:13

the guy has to go to one of these places, oh wait that's a different kind of [Stop sign appears]

00:18

collection agency, sorry just kidding. All right well a collection agency in the finance world

00:23

is seeking a different form of currency that is literal currency, greenbacks [Lots of money being counted]

00:29

cashola, whose money are they after exactly? Deadbeats, anyone who made a

00:34

promise to remit payments to pay back a mortgage, to pay off a credit card, to pay [Wads of money]

00:38

out for a jewelry thing at the mall, to pay for a tattoo down there as well. [Someone getting a tattoo]

00:43

You name it and then they defaulted on that promise to pay back the vendor, yeah

00:48

because when you sign your name on the dotted line and agree to pay back a

00:51

lender for their generous loan or extension of credit or agree to buy [Someone signing a contract]

00:56

something and pay someone 30 days later for it, paying them back is really not a

01:01

suggestion... Once you fall behind enough in your [Woman who is owed money does not look happy]

01:05

payments and you're a real deadbeat well they call a collection agency who then

01:10

tracks you down delivers nasty threatening letters to your mailbox and [Letter being posted]

01:14

if it's a New Jersey collection agency well they usually send someone to break

01:18

your kneecaps with a billy club, yeah they still do that... If the message still [Guy opens his door to find a man in a suit with a bat]

01:22

isn't getting through to you well the next step is for the agency to set the [Truck wheels]

01:26

wheels in motion that will result in the repossession of your home, your car, your [Repossessed notice being nailed to a house]

01:31

treasured signed set of Big Bang Theory trading cards you swore would be buried [Gravestone with the trading cards sticking out of the ground]

01:35

with you. So yeah if you choose not to make good on your obligations well you

01:39

shouldn't expect the people you owe to forget about you, or to go easy on you

01:44

like why should they would you do that for them, because they will stick a

01:47

collection agency on you, which is not a good feeling when you're up to your [Guy stood in a pile of bills]

01:51

knees in debt, or if you live in New Jersey up to your thighs... [Guy who has had his legs beat off in a pile of bills]

Up Next

Finance: What is Days Sales Outstanding?
30 Views

What is Days Sales Outstanding? Days sales outstanding is a figure that looks at how long it takes a company to get their money after they’ve mad...

Finance: What is the Fair Debt Collection Practices Act?
1 Views

What is the Fair Debt Collection Practices Act? The Fair Debt Collection Practices Act is the set of rules that debt collectors follow. These rules...

Finance: What are Surrender Period and Charges?
1 Views

What are surrender periods and surrender fees, or charges? Hit play to find out.

Finance: What is a regular way contract?
1 Views

A regular way contract is a normal security trade. Nothing fancy or out of the ordinary, just... regular. Especially if it's on a high-fiber diet.

Find other enlightening terms in Shmoop Finance Genius Bar(f)