How To Calculate Accounts Receivable Collection Period
Businesses of all sizes sell their product to their customers on credit.Credit sales are different from cash transactions in that they must be carefully managed.Slow or late payments can be caused by mismanagement of accounts.The average collection period is one of the financial ratios that can be analyzed to keep track of credit sales.Learning how to calculate the accounts receivable collection period will help your business keep track of how quickly payments can be made.
Step 1: Know what you need.
The average accounts receivable collection period can be calculated from the following equation."days" refers to the number of days in the period being measures.The receivables turnover must also be calculated from other data.The average accounts receivable balance and net credit sales need to be measured.The sales and returns entries can be calculated.
Step 2: Net credit sales are determined.
All of the sales on credit are equal to the net credit sales.The customer can pay at a later date in non-cash sales.Credit is given to a customer for a problem with the purchase.Sales allowances are reductions in price granted to a customer.Net credit sales will be higher if a company gives a large amount of credit to customers with a poor credit history.Net credit sales are defined as sales on credit, sales returns, and sales allowances.
Step 3: The average accounts receivable balance can be calculated.
In the measurement period, use the month-end accounts receivable balance.The company's balance sheet contains this information.The best way to account for the effects of seasonality is to use 12 months of data.Rapidly growing or declining businesses should use a shorter measurement period.Using 12 months of data would understate the average accounts receivable for a growing company.
Step 4: The accounts receivable turnover ratio can be calculated.
This is a company's annual net credit sales divided by its average balance in accounts for the same time period.The number of times a company's accounts receivable turns over is calculated.An example would be a company with $720,000 in net credit sales and $70,000 in accounts receivable.9 times a year is how many times the company's accounts receivable turns over.
Step 5: Understand how to calculate the accounts receivable collection period.
The equation for this calculation is as follows.The average accounts receivable collection period is referred to as the "Period".The number of days in the period being measured is referred to as "days".The receivables turnover ratio is calculated using net credit sales and average account receivable.
Step 6: You can input the variables.
We have a company with $730,000 in net credit sales and an average accounts receivable of $80,000.The receivable turnover ratio was 9.125.The data was measured over a year and will be used for the top of the equation.The completed equation looks like this.The number of days in the period being measured should be taken into account.180 is usually used for a half year.
Step 7: There is an equation to be solved.
You can divide to solve the equation if you have your variables in it.In the example, the equation is solved by 40 days.
Step 8: Understand your result.
The average accounts receivable collection period is 40 days according to the result of 40.The business owner can expect a credit sale to be paid by the customer within 40 days.They can use this to plan for how much money they need to have on hand.
Step 9: Understand the significance of the accounts receivable collection period.
The accounts receivable collection period is calculated to show how long customers are taking to pay the company.It's better to have a lower figure.Customers are paying the company in a timely manner.The company has less funds tied up in accounts receivable and more funds available to use for other purposes if customers pay in a shorter amount of time.Customers are less likely to default on credit payments if there is a low number.
Step 10: The standard number of days customers are allowed before a payment is due is called the accounts receivable collection period.
A company has an accounts receivable collection period of 40 days.The accounts receivable is turning over 9 times a year.This seems to be beneficial to the company.The company's credit terms might require customers to pay within 20 days.The company doesn't have good collections procedures because of the difference between the credit terms and the accounts receivable collections period.
Step 11: Understand how to keep the accounts receivable collection period short.
Credit must be granted prudently.Before a credit sale can be approved, customers' credit should be screened.Credit sales should not be approved for customers with poor credit histories.Companies should have vigorous collections activities.Accounts shouldn't be allowed to linger beyond the company's credit terms.
Step 12: The average accounts receivable is related to the annual sales figure.
Depending on where they are in their billings, companies with seasonal sales may have high or low average accounts receivable figures.Companies can either annualize the receivables data or use a shorter measuring period to account for seasonal differences in the average accounts receivable balance.The accounts receivable balance should be averaged for the entire year.The accounts receivable collection period can be calculated using a rolling average balance.The accounts receivable collection period will be affected by seasonal sales activity.