Business is good. Orders and shipments are soaring. But, you are running out of cash to pay suppliers, employees and operating expenses. Sound familiar? You may be caught in a cash trap.

Cash is the lifeblood of business. It is the key component of working capital that you need to run your business. Cash keeps orders and shipments flowing. Without it you are dead in the water – unable to buy material and pay employees and operating expenses. Cash is also the resource you need to invest in and grow your company. Cash is critical, particularly to young fast growing companies that don’t have the ability to borrow to weather a cash squeeze or finance business growth. Lack of cash is the primary reason that many companies fail.

Accounts receivable can suck up the cash you need to operate as your business grows. Expanding DSO can create a cash trap that can be hard to get out of. If you are not careful customers will try to use your company as a financing source by delaying invoice payments. DSO expansion can force you to borrow or delay payments to suppliers. Financing your customers comes with a very real cost either way.

This whitepaper will walk you through the benefits of reducing DSO, what leading indicators can alert your to an increasing DSO, how to eliminate the bottleneck in reducing DSO and how to strategize on DSO reduction.

The Cost of Financing DSO

The cost of being caught in a cash trap can be easily calculated. Consider the following scenario:

  • Annual credit sales – $7,300,000
  • DSO – 60 days
  • Borrowing Cost – 6%
  • Credit terms – Net 30 days

Average daily credit sales are $7,300,000/365 days or $20,000.

The cost to finance one day of sales annualized is $20,000 x .06 or $1,200.

The cost to finance 30 days of sales in excess of credit terms annualized is $1,200 x 30 or $36,000.

Cash trapped in DSO in excess of credit terms is $20,000 x 30 days or $600,000.

Benefits of Reducing DSO

Reducing DSO and getting out of a cash trap reduces borrowing costs and frees up cash needed to finance operations and growth of your business.

Letting customers use your cash instead of their own by paying late can be very expensive and deny your company the vital cash it needs to operate and grow. In a worst case scenario, if the cash trap becomes too big, the result could be bankruptcy.

Reducing DSO

The best way to reduce DSO and avoid a cash trap is to automate your credit and collections. The money you save from reducing DSO and freeing up cash can quickly return the cost of investing in accounts receivable automation. Companies that automate credit and collections have experienced DSO reductions of up to 10 days.

The key to successfully automating accounts receivable and reducing DSO is to work with an experienced software partner.

The Leading Indicators

DSO expansion can suck up the cash you need to operate and grow your business. If you are not careful you may end up in a cash trap that can lead to:

  • Higher borrowing costs to finance DSO
  • Insufficient cash to buy inventory and pay employees and operating expenses
  • Inadequate cash to invest in and grow your business
  • Insolvency and possible bankruptcy

Reducing DSO, as discussed in our previous article, can benefit your company by helping you to avoid a cash trap and its potentially damaging consequences.

But how do you manage accounts receivable to avoid a cash trap? What are the signs or leading indicators of a cash trap? What steps can you take to avoid DSO expansion that can lead to a cash trap?

Here are some ideas on what you should monitor and steps you can take to avoid a cash trap.

Percent Past Due

Don’t automatically assume that DSO expansion is due to an increase in past due accounts. Check the percentage of receivables past due first to see if this is the source of the problem.

If the percentage of receivables past due has not increased, or increased little in relation to the growth of DSO, then you need to reevaluate your payment terms. If you have different terms depending on the type of customer or product, etc. you may be have a greater mix of longer payment terms, or your sales department may be using terms more aggressively to increase orders. Whatever the reason, you need to find a balanced solution that meets market needs without putting your company in a cash trap.

On the other hand, if the percentage of past due receivables has increased then you need to concentrate your AR teams efforts on past due accounts.

Days Past Due

Monitor days past due to determine which accounts are contributing to DSO expansion. Identify which invoices are past due and by how much. Concentrate collection efforts on getting the major past due invoices paid.

An unusual increase in days past due can sometimes reveal unresolved disputes or a change in a customer’s financial condition, which may require additional follow up actions.

Cost of Credit

Calculate the cost of carrying past due accounts receivable by invoice. This is a great tool to help focus your AR team on collection priorities.

Accurate and Timely Information

Winning a war requires accurate and timely intelligence. Your AR team also needs accurate and timely reports to identify the reasons for DSO expansion and focus on the actions necessary to reduce it.

If you do not have automated accounts receivable, gathering and analyzing the data your AR ream needs frequently involves exporting data from an accounting system and using custom spreadsheets to calculate and analyze the data. This makes staying ahead of the curve on DSO expansion a challenge.

Automated accounts receivable solutions can give your AR team the real-time information it needs to identify the causes of DSO expansion so that efforts can be prioritized to reduce DSO.

The Bottleneck

Is your company in a cash trap with too much money tied up in DSO, and you can’t seem to reduce DSO no matter how hard your AR team tries? If your answer is yes, then you probably have not automated accounts receivable and collections. We’ve covered the benefits of reducing your DSO here.

Manual collections and accounts receivable can be bottlenecks allowing DSO to expand, sucking up needed cash and snaring your company in a cash trap. Many companies can see this coming before it happens by paying attention to leading indicators, which we’ve also covered here. Manual collections bottleneck your AR team’s ability to make contact with all past due accounts frustrating efforts to reduce DSO.

How the Bottleneck Works

Most AR staff take 25-40 minutes per phone call to contact a past due account.

  • 10-15 minutes prep time to gather information from different systems before calling.
  • 10-15 minutes placing the phone call and speaking with the customer.
  • 5-10 minutes post-call administration and write-ups to keep the customer file up to date.

With a combination of phone calls and emails, the average AR team member can complete about 40 customer communications per day. The result is that only a fraction of past due customers and invoices are dealt with daily using manual collection techniques.

Manual collection bottlenecks limit the ability of your AR team to contact customers. This usually means that less than 10% of customers are contacted after invoice presentment, because the AR team is typically focused on 60-days past due and above. The result is that the vast majority of past due invoices are untended and growing. In a situation where DSO are growing the chances of being caught in a cash trap, and not being able to get out, increase substantially when your AR team is bottlenecked by manual collection methods.

With the bottlenecks created by manual collections and accounts receivable you will struggle to tread water instead of making progress reducing DSO.

One of the biggest obstacles to reducing bottlenecks and DSO is the lack of technology in AR departments.

Without the technology that comes with automated collections and accounts receivable there isn’t a way to get ahead of the curve on DSO. Lacking automated collections and accounts receivable your AR team will always be dealing with only the tip of the DSO iceberg, while the vast majority of DSO invoices continue to build beneath the surface.

The key to automating collections and accounts receivable solutions to break the bottlenecks blocking your ability to engage all past due customers and reduce DSO is to work with an experienced software partner.

The Strategy

DSO can suck up your company’s much needed cash resources and keep your company in a cash trap. Manual collections and accounts receivable create bottlenecks that allow DSO to grow and hamper your AR team’s efforts to reduce DSO. They simply cannot engage enough customers using manual collections and accounts receivable to control and reduce DSO.

You need the technology that comes with automated collections and accounts receivable to get ahead of the curve to reduce DSO and escape a cash trap. Developing a strategy to implement the technology you need to engage more customers is the first step you need to take to reduce DSO.

Here are three critical applications of technology which can help to reduce DSO by up to 10 days.

AR Sequences

Sequencing is the process of automatically sending accounting information via email, text or phone calls to your customers over a period of time, based on user actions. Sequencing uses customer data to choose the best approach for each account.

Benefits of sequencing include:

  • Timely Information – Deliver customized information based on where your customers are in the collections process.
  • Effective Engagement – Contact customers when and where they are most likely to respond.
  • Easy Automation – Automate tedious parts of the collections process to allow sequences to touch customers for you.

Types of sequences include:

  • Onboarding – Onboarding sequences introduce new customers to your accounting process and ensure they have completed the necessary steps to start making payments.
  • Disputes – Dispute sequences notify your team immediately to find a resolution quickly and automatically escalate the dispute if needed.
  • Invoicing – Invoicing sequences take the manual work out of routine invoicing tasks. As soon, or before an invoice is due the sequence will reach out to customers and continually remind them until a payment is received.
  • Past Due – Past Due sequences give gentle or firm reminders to customers every few days until action is taken on their past due account.

Sequences can be customized and tailored to an infinite number of different uses. Collectors are only limited by their creativity.

Customer Self-Service

Many customers, particularly millennials, want the freedom to directly manage their accounts. Give them the form of customer engagement they want. Customers should be able to go online to access invoices and supporting documents, make payments, initiate disputes and make payment commitments. Customer self-service saves customers’ and your time which can be used to increase customer engagement and reduce DSO.

AR Service Desk

Make your company easy to engage. Provide a single point of contact between you and your customers to help resolve routine tasks such as helping a customer change their online password or get set up in your AR system. An AR Service Desk saves time and provides a single point of engagement to help customers manage their accounts.

Technology applications made possible by automating collections and accounts receivable help you to eliminate bottlenecks to engage more customers and reduce DSO.

The key to implementing a strategy to engage more customers and reduce DSO is to work with an experienced software partner.