Some companies turn a profit every month and spend the year staring at the bank balance with dread. It is not a contradiction, and it almost always has the same name: average collection period. It is the number of days that pass, on average, between invoicing and having the money in the account.
It is also one of the few indicators an SME can calculate today, with information it already has, no ERP and no new software required. This article shows how to calculate it, how to read the result, and what to do when the number is bad.
What is the formula for average collection period?
The formula, in the form most useful to an SME, is this:
(Accounts receivable balance ÷ Sales for the period) × Number of days in the period
Using a full year, the number of days is 365. Using a quarter, it is 90. The result comes out in days, and reads directly: "on average, we get paid after X days."
Which accounts receivable balance should I use?
The total balance of invoices issued and not yet collected, on the last day of the period, VAT included. It comes from the trial balance, the accounts receivable ledger, or a simple sum of open invoices. It matters that it includes everything outstanding, even what has been overdue for a long time — especially that, in fact, because it is what distorts the number the most, for the worse, and it is exactly what you need to see.
And which sales figure?
Sales for the same period, also with VAT, so that numerator and denominator are comparable. This is the most common calculation error: using the accounts receivable balance with VAT and sales without it, which artificially inflates the result by about twenty-three percent.
A concrete calculation, start to finish
A services company invoiced €600,000 with VAT over the last year. On 31 December, it had €98,000 outstanding from clients.
98,000 ÷ 600,000 = 0.163. Multiplied by 365, that is 60 days.
If this company sells on agreed 30-day terms, the number tells it something very precise: there are thirty days of systematic delay that are in no contract. It is not a commercial-terms problem — it is a process problem.
What is a normal payment term in Portugal?
Portuguese Decree-Law no. 62/2013, which transposes the EU directive on late payment in commercial transactions, sets the default term at 30 days when nothing has been agreed. Parties can extend that to 60 days by express agreement, and beyond that only when the extension is not seriously unfair to the creditor.
The same law entitles the creditor to statutory commercial interest, at a rate published every six months, and to a minimum compensation of €40 per overdue invoice, to cover collection costs. Most SMEs are unaware of this second part, and so they never use it — not even as a talking point in a conversation.
In practice, an average collection period above 60 days means the company is financing its clients with its own money, for free.
Where do the days get lost?
Average collection period is not a single number: it is the sum of several delays, and only one of them depends on the client.
| Step | Days it typically takes | Who controls it |
|---|---|---|
| Delivery completed to invoice issued | 5 to 30 | The company |
| Invoice issued to invoice delivered to the client | 0 to 7 | The company |
| Agreed payment term | 30 to 60 | Commercial agreement |
| Due date to first collection contact | 7 to 30 | The company |
| Contact to actual payment | 3 to 20 | The client |
Read this way, the table is uncomfortable and clarifying: of the five steps, four sit on this side of the table. The client controls the last one. That is why attacking average collection period by renegotiating client terms usually achieves so little — it tinkers with the one step that was already agreed.
How to bring down average collection period
Invoice on the day you deliver
This is the highest-impact, lowest-cost move. Every day between delivery and issuing the invoice is a day added to the term, and no client asked for it. Companies that batch-invoice at month end are handing out, on average, fifteen days of credit nobody negotiated. The detail is in the real cost of invoicing late.
Confirm the invoice reached whoever pays it
A significant share of delays is not a refusal to pay: it is an invoice stuck in the wrong inbox, or missing the purchase-order number the client needs to process it. Confirming receipt two days after sending eliminates an entire class of delays.
Have a collections process instead of one uncomfortable person
A reminder three days before the due date, a notice on the day itself, a personal contact at fifteen days. Written down, with an owner and with dates. When a process exists, nobody has to decide whether "it's time to call yet." The method is in how to collect without damaging the relationship.
Ask for a deposit or advance payment
On project-based work, a thirty-percent deposit on award reduces average collection period without changing a single payment term. It is also the cheapest way to fund operations, because it carries no interest and needs no guarantees.
Check your own case
- You know your average collection period as a number, not a feeling.
- That number is within ten days of the term you actually agreed with clients.
- Every delivery from last month was invoiced within that same month.
- Someone has the written responsibility to chase overdue invoices.
- You know the three clients who add the most days to your average.
Two or more "no" answers mean average collection period is being set by default, not by decision.
Frequently asked questions
How often should I calculate this indicator?
Monthly, always with the same formula and the same reference period. The absolute value matters less than the trend: three consecutive months rising is a warning sign even if the number still looks acceptable.
Should I exclude bad-debt clients from the calculation?
Not from the management indicator — that is exactly where they become visible. It is worth also calculating average collection period without those clients, to separate the structural problem from the one-off. On when to accept the loss, see bad debt.
Is average collection period enough to manage cash flow?
No. It tells you the average speed at which money comes in, but not when. For that you need a 90-day cash flow forecast, which is where the two concrete dates — collecting and paying — meet.
In summary
Average collection period explains most of the cash-flow squeezes in profitable companies, and it takes five minutes to calculate from the trial balance. The result rarely points at the clients: it points at the gap between delivering and invoicing, and at the absence of a collections process. Those are the two easiest things to change.