from the BUs, credit controllers find difficult to control the DSOs as they dont have proper metric that could help
them to make decision objectively.
Existing Cash Flow Methods Dont Work
Most businesses use MRP/ERP systems that are not effective in providing value in the supply chain. Typically
these systems are configured by global mandate/requirement. Credit managers certainly work hard and are
motivated by core metrics.
Lack of Visibility
Unfortunately, many departments don't find that these metrics yield sufficient insight to merit the time required to
track them. According to the CRF only 52% of companies monitor average days delinquent and only 71% track
best possible DSOs compared to the overwhelming 97% that track average DSOs.
The situation is not likely to improve, given that increasingly lean credit and collections departments have even
less time to collect additional information. According to the CRF, 90% of credit managers say that "do(ing) more
with existing staff resources" is a "very" or "significant" challenge.
Introducing the DSO Control Ratios:
Clearly, credit & collections managers need a new metric, one that provides even more visibility into the specific
impact that credit and collections managers have on the receivables management process without requiring too
much additional effort. To address this need, we have developed the "DSO Control Ratios" performance
metric which will be explained in the following paragraphs..,
Days of Sales Outstanding (DSO) definition:
A measure of the average number of days that a company takes to collect revenue after a sale has been
made. A low DSO number means that it takes a company fewer days to collect its accounts receivable. A high
DSO number shows that a company is selling its product to customers on credit and taking longer to
collect money. Days sales outstanding is calculated as:
The DSO Control Ratios addresses many of the key challenges associated with tracking average DSOs. Like
* Backs the impact of disputes out of average DSOs. Disputes have a significant impact on DSOs, but they are
more directly linked to flaws in the manufacturing process, administrative errors, and misunderstandings than to
inefficiencies in the receivables process. Given this, it's critical to exclude the impact of disputes that are not
related to the credit and collections departments.
* Factors out external delays. Credit and collections have no control over the Channel Sales or invoicing
processes. Consequently, the ratio is reported net of all days associated with mail and billing delays.
* Mutes the impact of the revenue biases, where applicable. Firms that use the classic average DSO equation
(gross receivables / annual net sales * 365) rather than backing out sales month-by-month find that rapid
revenue growth can distort DSOs.
Benchmarking Your Performance
The DSO Control Ratios and channel segregation will take slightly little more time to calculate than the average
DSOs metric, but the effort will be worth the time investment. We've developed an excel based sheet for
calculation of the same. The approach that makes the most sense for your organization will depend on the type
of information that is most easily accessible to you as well as the consistency of your payment terms and take
strategic decision.
A simulation study made using historical DOE(Design of Experiments) for an industry involved in Electrical and
Electronic Manufacturing and supply.. the following contour chart depicts various possibilities/combinations of
the AR, OD(overdue>60days) with respect to the DSO ( see figures below)
Best Practices
In addition to the above elucidated strategy and control measures, our research indicates that there are several
other levers available to companies that seek to minimize the size of their DSO Gaps by developing world-class
receivables management processes.
Credit automation
Time-poor credit professionals are burdened with many administrative activities that could be automated - from
the acquisition of financial, account, and credit data to the scoring of customer accounts. Fortunately, many
companies have testified that automation has a positive impact on financial metrics. For example, a recent CRF
study shows that 45% of respondents believe that credit scoring has actually had a positive impact on DSOs.
Best-of-breed credit tools store all data in a centralized database, which can be leveraged to achieve many
goals beyond DSO management. For example, data can be distributed to credit managers around the world to
eliminate unnecessary duplication, used to conduct analysis that improves the granularity of credit screens, or
drawn on to generate lists that help sales to pre-qualify customers / channel partners. Finally, credit automation
improves the consistency of the decision making process - and creates an audit trail for every decision.
Collections automation
Credit professionals may be burdened by administrative tasks, but their colleagues in the collections
department are drowning in them. Before a phone call can be made, the collector must spend time deciding
whether an account merits immediate follow-up, assemble and quickly review all relevant documents, determine
whether there has been a decline in orders or a slowing of payments, and check on the status of disputes.
World-class companies like Siemens and ABB are adopting automated collections tools that establish a calling
order, centralize all necessary account information and relevant documents, update professionals on the status
of disputes, and monitor accounts for events that forewarn declining credit quality.
Automation software can also help collectors to more quickly execute on their post-call responsibilities (e.g.,
follow-up letters, faxes, documentation, and reporting). This allows collectors to devote more time to the activity
that is most directly correlated with reducing DSOs: talking to customers.
Management by exception
Once credit and collections functions are automated, the next step for world-class organizations is to ensure
that a) the data is shared across processes, and that b) management receives immediate notification of issues
that merit their attention. This will allow both the CFO and senior financial professionals to "manage by
exception", rather than wasting time with the 80% of accounts that don't require their attention at any given
moment. Automated and integrated credit and collection tools should minimize management response time for
dealing effectively with problem accounts.
Broader Implications
As a credit & collections professional who is dedicated to continuous improvement, your priority will be to
monitor the DSO Control ratios and implement technology that will enable you to limit it. However, the CFO may
see value in rolling out parallel initiatives elsewhere in the organization. For example, it would make sense to
monitor the impact of disputes on DSOs over time, classify these disputes into categories that can be assigned
to various areas within the organization (e.g., manufacturing, billing, sales, goods return, logistics, etc), invest in
more efficient processes and/or technologies, and measure progress over time.
Conclusion
The research indicates that the receivables management process is rife with inefficiency. This finding prompted
us to develop a performance metric, the DSO Control ratios provide companies with fact-based insight into the
degree of inefficiency within their own credit and collections systems.
The key to improving performance against the DSO is to use the control ratios to facilitate the exchange of
empirical data across people and processes. Not only will these process improvements reduce DSOs and
capital costs, but they will have a significant impact on bad debt expenses and processing costs. It's clear that
there's value in making every effort to "control the controllables" - and make the credit and collections
processes as efficient and error-free as they can be.
Authors Affiliation
Sri B Badrinath is currently the Country Champion for Business Process Excellence specializing in Lean Sigma
and Business Process Reengineering at Schneider Electric Pvt. Ltd, Prior to this he was the Head of Lean & Six
Sigma Deployment in WNS Global Services Lt, a ITES Giant listed in NYSE (WNS) India. He had also been the
founder of Lean initiative with WNS. He has extensively worked on enterprise-wide strategic alliances for
Deploying BPR & Continuous Improvement Philosophies at various Business domain like BFSI / Airlines /
Supply chain & Logistics / Manufacturing etc., (Ex. British Airways, SITA, Virgin Atlantic, Sony, Hawk eye,
Aviva, (Norwich Union), Fdex, Concentra, Canter, Marsh, etc). He has won several award from IQPC Asia
pacific and Global for implementation of Lean/SixSigma/ Business Process Excellence in WNS. He is presently
a in the National Jury panel for IQPC India for Manufacturing domain. Sri B Badrinath has a B.S. in Mechanical
Engineering from the Vellore Institute of Technology (Univ, of Madras) and a fellow of PGPEx Management
programme instituted by Indian Institute of Management Kolkotta. For clarification and quires You may reach
Sri B Badrinath at Sri.Badrinath@in.schneider-electric.com