For a business to be successful it doesn’t only need to make sales and hit its targets they need to collect the cash from these sales too. It may sound obvious but businesses need to have cash available and have liquid assets if they are to operate smoothly and thrive.
Problems arise when there are too many accounts receivable and debtors are either late in paying or not sending payment at all. What ways are there for a company to improve this area of their business and lower their DSO successfully?
What are days sales outstanding?
Days sales outstanding or DSO is a way to measure the effectiveness of a company's debt management and finance section. DSO is how many days it takes you to receive the cash owed from sales. Companies will produce monthly reports on this area to see how long on average it takes for their clients or customers to pay for services or goods received.
Spread over several months this can show if the DSO is improving or getting worse. These reports help companies measure their cash flow and can highlight trends that may cause your business problems.
How does this affect your business?
Every company needs a good cash flow and liquidity, and this means reducing days sales outstanding to the lowest amount possible. Invoices may typically be expected to be paid within 30 days and your business may operate very smoothly as long as the money comes in during this period. Problems arise once the 30 days is breached, especially if it is by more than one customer or on high-value orders.
Not only do you not have any money flowing into the company to help with your own operations but you are now spending time chasing debts that could be used more fruitfully. Having a poor DSO means you are at risk of defaults. The longer your outstanding invoices are unpaid the more likely it is that a customer will default completely.
What are the reasons that customers refuse to pay?
Some customers simply come up against unexpected cash flow problems of their own but sometimes there are other reasons that you won’t receive payment. It could be that there is a dispute over the quality of the goods sold or a mistake on the paperwork. Your invoice may not have arrived or there is an error with the dates on it.
What is a good DSO?
A good DSO in one industry may not be seen the same way in another. For a business that relies on insurance payouts such as healthcare then they would consider a higher DSO such as 45 being good but for another business such as manufacturing that would be seen as bad.
Some businesses may also give their customers longer to pay and decide that giving the extra credit is worth it in the long run. This is true for long-term, reliable customers that purchase high-volume amounts. Other companies may need their DSO to remain around 30 to be viable.
Some companies suffer from sales fluctuations due to the nature of their business. If there are fluctuations in sales it stands to reason that there will be fluctuations in the days sales outstanding too. This is why many companies will measure their DSO as an average over a longer period, say 12 months.
A DSO under 45 would normally be seen as a good DSO but the lower the better, so how can you improve yours?
How can you improve your days sales outstanding?
There are a few ways you can reduce your DSO and to speed up payments. Some of these methods depend on the nature of the business, for example, insurance companies can use workflow processes such as binder billing to increase cash flow but that may not apply to another industry. Below there are methods that can be used by a company to improve their DSO.
Process paperwork correctly and on time
Send out your invoice or billing as soon as the products have been delivered. There are a few good reasons for this; the quicker the invoice arrives the quicker (you should) receive payment. By sending out the invoice you have started the clock ticking on your 30-day deadline but it is also the ideal time to send. When someone receives their goods they are more likely to pay than later on.
Make sure all the documents are correct. One of the simplest reasons for late payment and an increase in DSO is that the billing was incorrect. Any billing queries will only delay payment, especially if you have to reissue documentation. Also have all the payment terms and conditions outlined clearly before sales are made.
Make it easier for your client or customer to pay
Invoices can get lost in the post and there is also no proof that they are delivered unless you send them by registered services.
The benefits of electronic invoicing are as follows:
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Instant delivery
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Calls to action
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Payment portals
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Proof of delivery
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Automation
With an electronic invoice, you can add a link or a call to action, meaning that if your customer wants to pay they only have to click once. This can take them to your pay portal and let them pay online quickly and easily.
By adding extra payment options you are making it simpler for your customer to pay. Credit cards, direct debit, and Paypal can all be added to your invoice this way.
Automation and software
Using debt management software such as Payt means you can automate much of your work and free up time. Once the customer or client has been billed the system will keep track of payments or non-payments, as the case may be, and then automatically send out late invoice letters.
By utilizing software and automated processes you can also make it easier for your customer to communicate. You can put an area on the invoicing for the customer to explain any problems.
How can you ensure you get paid?
There are many types of insurance that companies need and if you were in the business of exporting you could insure yourself against non-payment. If this is not the case then you need to look at other ways to improve the chance of your customer paying up.
You can use other incentives to help with the chance of payment and a reduction in DSO. Offer payment plans to businesses that are struggling or even a discount for fast payment so that cash comes into the business quickly.
There are two other options you can use for receiving cash but they have negatives attached too. One is to implement penalties for late payment including interest. This may encourage customers to pay on time but it may also lead to increased debt. The other method to reduce DSO is to use factoring but the disadvantage of this is that you will lose a considerable amount of the outstanding balance.
Summary
Although you cannot insure against non-payment there are some tips for reducing DSO. Send invoices out in a timely fashion. Make sure all the paperwork is correct. Automate services and use debt management software and use payment options and plans to make life easier for your customers.
The goal of the CompleteMarkets editor is to bring valuable content to the CompleteMarkets members. Providing content to insurance professionals to enhance their sales process, increase revenue streams, understand their clients and provide value to their agency.