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# Average collection period and Current ratio

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On average, Microlimp's accounts receivables total \$3,000,000 on annual sales of \$400,000,000.

What is Microlimp's average collection period?

How would the following actions affect a firm's current ratio?

a. Inventory is purchased and paid for with cash, it is not purchased on account.

b. The firm takes out a short term bank loan to pay its overdue accounts payable.

c. A customer prepays in full for specially ordered merchandise that it will take 60 days to manufacture.

d. Inventory is sold at the firm's normal 35% markup over cost.

#### Solution Preview

Here is some background info for you on avg collection period and current ratio:

Avg collection period: The average time period for which receivables are outstanding. Equal to accounts receivable divided by average daily sales.

The average collection period measures the length of time it takes to convert your average sales into cash. This measurement defines the relationship between accounts receivable and your cash flow. A longer average collection period requires a higher investment in accounts receivable. A higher investment in accounts receivable means less cash is available to cover cash outflows, such as paying bills.

The average collection period is calculated by dividing your present accounts receivable balance by your average daily sales:

Formula: Current AR / Avg Daily Sales
Avg Daily Sales: Annual Sales / 365

source: http://www.toolkit.cch.com/text/P06_4208.asp

For the purposes of your ...

#### Solution Summary

The solution discusses average collection periods and current ratios of costs.

\$2.19