The average collection period is the time it takes for outstanding payments to be received. Understanding this can help businesses anticipate cash flow and identify unfavorable trends, such as changes in customer payment patterns. It’s important to take into account factors like holidays and weather when calculating the average collection period.
Sometimes referred to as the collection ratio, the average collection period has to do with the relationship between your receivables and the length of time those outstanding payments are received. In essence, this period is a calculation of the average period required for full payment of outstanding invoices after they are issued.
One of the immediate benefits of understanding average collection periods is that the information allows the business to anticipate the cash flow generated by services rendered. Rather than hoping that all customers pay promptly within thirty days of the invoice being issued, calculating the average collection period replaces expectations with the reality of how quickly the customer base as a whole is remitting payments. This information makes it much easier for the company to plan payments for services rendered to its supplier partners, as well as organize the availability of funds to manage day-to-day operations, payroll satisfaction and other important aspects of the business.
Another valuable use of the average harvest period calculation is that the business can spot unfavorable trends in advance. If the period for the same period last year was 34 days and is now up to 42 days, the situation should be investigated. The reasons can be immediately identifiable, such as acquiring a high-volume customer in the last year who was given sixty-day payment terms. On the other hand, there may be long-standing customers whose payment patterns have changed. This may involve factors from the customer or invoices being forwarded to the customer.
For example, if the customer notified the company of a change in postal address several months ago, but the change was never recorded, the invoice will need to be submitted by the postal service. This could add several days to the process alone. Second, a customer may have changed their payables procedures and now cut their suppliers’ checks every two weeks, rather than weekly. Examine where the changes occurred and why they can uncover issues that can be fixed and fixed easily, thus restoring a more profitable harvest period.
Understanding that there is a certain ebb and flow in all harvesting periods, quotas should be taken into account when calculating an average harvesting period figure. The influence of holidays, seasonal activities such as vacations, and natural factors such as the weather can affect how quickly customers receive payments. Taking these factors into account, but also investigating to determine if there are any recurring issues impacting the average collection period, will help ensure that a business is receiving payment for services rendered in the most timely manner possible.
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