What does an average collection period of 30 days indicate for a company?

• A. The company takes 30 days to sell its entire inventory.
• B. On average, it takes the company 30 days to collect payments from its customers after a sale is made.
• C. The company pays its suppliers within 30 days of receiving goods.
• D. The company has 30 days of cash on hand to cover expenses.

Answer: (B)

Verified step by step guidance

1. Understand the concept of the average collection period: It measures the average number of days it takes for a company to collect payments from its customers after a sale is made. This is a key metric in assessing the efficiency of a company's accounts receivable management.
2. Identify the correct interpretation of the average collection period: It does not relate to inventory turnover, supplier payments, or cash on hand. Instead, it specifically refers to the time taken to collect receivables from customers.
3. Relate the average collection period to the company's credit policy: A 30-day average collection period typically indicates that the company allows customers 30 days to pay their invoices, aligning with standard credit terms in many industries.
4. Evaluate the implications of a 30-day collection period: This suggests the company has a relatively efficient accounts receivable process, assuming it aligns with industry norms and the company is not facing significant delays in payment collection.
5. Consider the broader financial impact: A shorter collection period improves cash flow, while a longer period may indicate potential issues with customer payments or credit policies. The 30-day period should be compared to industry benchmarks for further analysis.