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Definition:  The average collection period indicates the average number of days elapsed between a credit sale and the date the company receives the payment from the credit sale.

## What Does Average Collection Period Mean?

What is the definition of average collection period?  The ACP is a strong indication of a firm’s  liquidity  over the  accounts receivable , which is the money that customers owe to the company, as well as of the company’s credit policies. A short average collection period suggests a tight credit policy and effective management of accounts receivable, which both allow the firm to meet its short-term obligations.

Conversely, a long ACP indicates that the company should tighten its credit policy and improve the management of accounts receivable to be able to meet its short-term obligations. To calculate the average collection period formula, we simply divide accounts receivable by credit sales times 365 days.

Let’s look at an example.

## Example

Company ABC is a retail company that operates in the home appliance industry. The company has a tight credit policy because it plans to pay off its short debt by the end of the  fiscal year . Annabel, the company’s accountant, wants to calculate the average period and determine if there should be any adjustments in the company’s credit policies.

The company’s accounts receivable is \$10,185 for the last quarter. For this amount, Annabel calculates that the credit sales are \$105,452. Therefore:

ACP (Q3 2015) = \$10,185 / \$105,452 x 365 = 35.2 days

This means that customers pay their credit to the company every 35 days on average.

Annabel calculates the average collection for the same quarter last year as a basis for comparison. Therefore:

ACP (Q3 2014) = \$13,254 / \$110,986 x 365 = 43.6 days

The collection period has dropped by 8 days YoY, and it has improved. However, it remains high. The company needs to adjust its credit policies to lower the collection period down to a week and be able to meet its short-term obligations.

## Summary Definition

Define Average Collection Period:  ACP means the time it takes to receive money from customers who purchase goods and services on account.

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