Closing the gap

Craig Vaream outlines electronic payment strategies to reduce Days Sales Outstanding

“Putting your DSO numbers into formal context with your company's trading terms or other financial guidelines will make them more meaningful ”
-Craig Vaream

As tough economic times continue, a growing number of business leaders and municipal officials are seeing their aging receivables extend further outward - increasing their days sales outstanding.

While company inventories gather dust, cash-strapped customers deliver the double whammy of cutting back on orders and taking longer to pay - conserving cash at the expense of their creditors. In the absence of steady cash flow, more organizations, by necessity, are going out-of-pocket for operating capital. Furthermore, dependence on paper documents and manual processes is exacerbating delays in collecting their receivables and converting them into working capital.

Certainly, advances in automated receivables processing have improved funds availability and
cut processing costs. However, the beneficiaries have largely been forward-thinking entities who were early adopters of lockbox, e-Commerce, ACH and other integrated solutions.

Despite the breadth of available technology, many organizations still have not taken advantage
of it, leaving them dependent on their manual payment processing models.

Performance metrics

How can you tell if the economy is truly in a tough place? Leading economists, ratings agencies, investment firms and others who track our nation's financial health rely on a number of key performance metrics - including Days Sales Outstanding (DSO).

DSO is used to determine the effectiveness of receivables management as it represents the average number of days it takes your organization to collect revenue and turn it into cash after a sale has been made. The lower the DSO number, the less time it takes to collect receivables. Keeping DSO at a consistently low level ensures your organization is capturing its receivables quickly and efficiently to meet your short- and long-term needs.

Most organizations review their DSO every quarter (91 days), every six months (182 days) and at fiscal year-end. While the formula can vary by industry, DSO is generally calculated as: Accounts Receivable/Total Credit Sales × Number of Days

Assuming an organization has $700,000 in receivables, $1.5 million in total sales and is conducting its review at the end of a given quarter, their DSO for that period would project out to 42 days. Putting your DSO numbers into formal context with your company's trading terms or other financial guidelines will make them more meaningful. For example, if your terms are net 30 days, an acceptable DSO time frame might fall between 40 and 45 days.

In addition to revealing the level of customer compliance with your credit terms, DSO provides insight into fluctuations that take place within your company's receivables balance by indicating whether changes occurred because of positive or negative shifts in sales during that period.
DSO also offers information on the impact of seasonality, selling terms and promotional discounts on your receivables balance in addition to sales. Finally, it gives visibility of lost opportunity costs - lost use of funds for capital improvements, new hires, inventory purchases - resulting from the non-collection of receivables.

Growing receivables migration

Today's robust electronic payment systems present business leaders and municipal officials with attractive cost and efficiency incentives to move beyond the lockbox, ACH and credit cards to upgrade their payment acceptance and remittance processing operations. Many are consulting and partnering with industry-leading technology providers to guide their conversion to automated processes that are scaled to their needs. This will allow their accounts payable, payment processing, collections and reporting functions to be managed, monitored and controlled more cost-effectively from a single, secure platform.

Migrating to an automated technology platform will also enable them to integrate e-Commerce transaction capabilities and use this expansion of their payment acceptance methods as a strategy to attract and retain customers.

Through the ability to centralize all remittance data and images in a single, repository hub, credit, accounts receivable and customer service managers get a head start on forecasting cash flow, cash allocation and exception management and resolution. The features and functionality of a customized electronic payment solution will help them accelerate collections and lower DSO numbers, receive electronic alerts on check returns and important payments, archive and retrieve images and indexed data online, capture and upload data throughout the day, including check payments sent to a lockbox, ACH payments and wire transfers, and ensure data security and disaster recovery.

Best practices

There are numerous steps you can take to close the invoice-to-collection gap and reduce your DSO time frame. Here are some ideas for you to discuss with your finance team:

• Consult with experts with a proven track record working with companies in your industry. They'll provide you with the best insight, industry perspective and the greatest return on your investment.
• Choose a payment services provider that thoroughly understands the changing landscape of electronic payment alternatives and who will help implement scalable solutions to allow your receivables management capabilities to grow in sync with your business.
• Focus on leading-edge technologies and make developing a robust receivables and collections processing infrastructure a priority. This will create synchronicity of all components, including state-of-the-art reporting, data security and fraud management.
• Educate stakeholders about the myriad of benefits that come with migrating to electronic solutions. For instance, removing paper from your back-end processes not only helps achieve better business continuity, but will also position your company as an eco-friendly corporate citizen.
• Market the benefits of electronic payment to your customers by offering communication and guidance to ensure all involved in the A/P and A/R functions view the shift as simple and seamless.
• Conduct remittance payment trend analyses on a regular basis to identify where your invoices and payments are concentrated. For Internet-based payment systems, use data mining and other analytics to identify the volume of payments coming from web-initiated channels.
• Allow customer purchase habits to influence your payment acceptance methods and alternatives. In the retail space, the growing demand and use of PINless debit transactions is lowering cost and giving customers a fast and secure way to pay. A similar trend is developing in the business-to-business arena as well.
• Analyze the cost and benefits of remote deposit capture for your receivables management strategy. This web-based solution makes it possible to capture and scan checks and full-page documents sent from multiple locations and process payments the same day. If you can capitalize cost effectively, your entire enterprise will benefit from an expedited, streamlined receivables process.

Case Study

In an effort to further collapse their cash-collection cycle and visibly improve their bottom line, organizations from both business and public sectors are taking a variety of actions, such as the ad agency that went paperless to achieve greater operating efficiency and improve service to clients.

Challenge: A large, national advertising firm with offices in 20 states processed their receivables from paper invoices and check copies that they received daily by overnight courier from their lockbox. Once they had manually entered remittance data into their A/R system, all paper documents were boxed for offsite storage. For internal audit purposes as well as answering client inquiries, excessive time and money was spent locating, verifying and shipping materials. The end result: a costly and laborious paper-intensive headache.

Solution: To meet their goals of lowering operating cost, reducing reliance on paper, improving workflow efficiencies and expediting funds availability, the agency selected a paperless payment processing strategy that combined their lockbox with an Internet-based electronic solution. The features and functionality that attracted the agency included same-day decisioning and account reconciliation, advanced image and data capture technology and the ability to consolidate accounts receivables transactions.

Results:

DSO was improved.

Shipping, handling and paper document storage costs were eliminated.

Incidence of fraud risk and errors were reduced through increased control.

Investment in major equipment avoided; all data is securely accessible online.

Improved ability to: receive electronic alerts on check returns and important payments, forecast cash flow, manage credit exposure, expedite exception resolution and access images and data archived online for up to 10 years.

Craig Vaream is a Managing Director and Product Executive in J.P. Morgan Treasury Services.