How do you evaluate accounts receivable?
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Companies must actively manage and monitor accounts receivable and assess the extent to which the company manages its trade receivables. Regular monitoring includes maintaining a continuing share of outstanding account balances and reporting any deviations from normal practice.
Evaluation is the first step in increasing productivity. And measurement is only valuable in this case if you measure the right thing. By implementing e-invoicing, we are helping customers around the world increase the efficiency of their receivables. Therefore we have made a clear list of the indicators that are important for determining efficiency improvements.
Review the list below and evaluate the effectiveness of your receivables.
DSO Days sales Outstanding
Perhaps one of the most important and most evaluated indicators for assessing AR performance. DSO is the length of time required to collect money owed to a company. Different industries and countries have different average DSO lengths. One of the best resources for determining the average rating your business should seek or improve on can be found in quarterly reports.
It is important to note that the DSO can vary significantly. So it’s best to use at least one year’s average for overall efficiency, or to monitor regular late payments more closely and reach them faster and reduce the usual downtime. The DSO is best compared to the best DSO, with the aim of bringing the DSO to the best DSO. The best DSO is calculated as:
Best DSO = (short-term accounts receivable x number of days in the collection period) / loan sales for a period
How can you improve your DSO?
One of the easiest ways to reduce DSO is to integrate with buyer’s payment systems and encourage automatic payments, perhaps to stimulate payments within a reasonable time. Additionally, tracking invoice receipts and even intentions to pay can give customers an early indication of which payments need to be deferred and who is likely to pay on time.
Average Delinquent Days (ADD):
The ADD measure provides an idea of how effective the AR process is in collecting receivables on time. ADD is calculated as:
ADD = DSO – the best DSO
As mentioned in the DSO section above, it is important to use the best DSO and the actual DSO as benchmarks. ADD provides these measurements appropriately. Plotting ADD and visually DSO over time can provide intuitive processing for performance fluctuations.
Collective Performance Index (CEI):
CEI provides insight into the effectiveness of the AR process in pooling all outstanding funds over a specified period of time (often a year). CEI offers quantitative processing of the collection process, without a qualitative indication of DSO or ADD. CEI is calculated as a percentage of:
CEI = (Initial Claim + Monthly Loan Sale – All Accounts Receivable Settlement) / (Initial Claim + Monthly Loan Sale – Current Claim Settlement) x 100
100% CEI implies a flawless capture process, so the AR team should try to get as close to it as possible. Continuous performance measurement will result in a significant decrease in CEI because it indicates a problem with the collection process. CEI and DSO need to move in different directions as AR processes such as electronic billing or automation increase their performance. CEI provides a comprehensive measure of the quality of the acquisition process, not DSO or ADD, which is a timekeeper and reflects the broader AR process.
Accounts receivable turnover (ART)
ART rates show cash flow and liquidity by measuring how often accounts receivable are converted into cash. ART is measured over a period of time, usually a year. ART is calculated as:
ART = average net sales on credit / receivables
As any CFO, CEO or senior CFO will know, cash flow is critical to the health of a company. Free cash flow determines how much money is left to give to shareholders or to be reinvested for business growth. ART measures support the section on how effectively the AR process supports this.
Invoice amount processed:
While this is not an official standard indicator it is useful to keep track of the number of invoices processed in a given period. This determines the quality of outgoing invoices and can help identify the need to improve the quality of the initial invoice through automation or better information access.
The required invoice revision increases the workload on the AR team and the time spent on the billing process. AR automation is a proven approach to reduce inaccuracies in invoicing and is incorporated into the wider area of electronic invoicing.
Increase evaluation request results:
Regardless of which indicators you measure, you need to think about what you want to do with your learning. If you find that your DSO is well above average for your industry but without a plan, then measurements are pointless.
Solutions such as electronic invoicing and AR automation are popular ways to tackle AR challenges. The advantage of these solutions is that they support your existing AR team and processes, and allow the AR team to focus on more valuable work that cannot easily be automated or digitalised. The greatest threat to business success is wasted time. At Netsend, our AR solutions increase productivity and allow you to focus on your business.
Stay up to date with business dashboards:
The next step in improving the results of accounts receivables is the use of a board of directors. Once you track key metrics, they should be quickly and easily available to everyone in your organization. Dashboards provide users with an instant overview of receivables performance by combining metrics, visualizations, and intuitive tools into one interface.
The final step is to learn how to get the most out of your new control panel. Optimizing your business dashboard translates into actionable insights.