Measurement is the first step towards improving performance. And measurement is only valuable in this regard if you’re measuring the right things. Through the deployment of electronic invoicing, we help clients all over the world improve their accounts receivable performance, so we’ve established a clear list of the metrics that matter to determine performance improvement.
Browse the list below and evaluate your accounts receivable performance. At Netsend, we can show you how significant improvements can be made in all of these important areas. For instance, how The Guardian reduced their DSO by 2 days – read their case study here.
Days Sales Outstanding (DSO)
Probably one of the most important, and frequently measured, metrics for judging AR performance. DSO is the length of time it takes to collect the money owed to the business. Different industries, and different countries, have different average lengths of DSO. One of the best resources for determining the average your business should be looking to meet, or improve upon, can be found in the quarterly Atradius Reports.
On average, in the UK, DSO is 31 days. This is significantly better than the average of 44 days DSO across Europe. With payment terms typically being in the range of 30 days, this equates to an average delay of just 1 day in the UK, but 14 days across Europe.
It’s important to realise that DSO can fluctuate significantly, so is best averaged over a year at least for general performance, or tracked more closely for regular late-payers and a means to chase sooner and shorten their typical delay time.
DSO is best contrasted against best possible DSO, with the goal of driving DSO down to as close to the best possible DSO as you can. Best possible DSO is calculated as:
Best possible DSO = (current receivables x number of days in invoicing period) / credit sales for period
How to improve DSO? One of the easiest ways to drive down DSO is to integrate with buyers’ payment systems and encourage automated payment – perhaps incentivising for payment within an acceptable timeframe. Additionally, tracking invoice receipt and even intention to pay can provide an early indication of which customers’ payments will need to be chased down, and who is likely to pay on time. At Netsend, our portal provides an easy route to track payments and our connectors provide deep integration with a vast range of payment systems and Value Added Networks (VANs).
Average Days Delinquent (ADD)
The measure of ADD provides insight into how effective AR processes are in collecting receivables on time. ADD is calculated as:
ADD = DSO – best possible DSO
As mentioned in the section about DSO, above, it is important to use best possible DSO and actual DSO as comparative metrics – ADD provides exactly this measure. Plotting ADD and DSO visually, over time, can provide an intuitive handle on performance fluctuations.
Collective Effectiveness Index (CEI)
CEI provides insight into how effective AR process are at collecting all outstanding money in a specific period (often one year). CEI provides a quantitative handle on collections processes, rather than the more qualitative indication from DSO or ADD.
CEI is calculated as a percentage by:
CEI = (beginning receivables + monthly credit sales – ending total receivables) / (beginning receivables + monthly credit sales – ending current receivables) x 100
100% CEI implies a perfect collection process, so AR teams should strive for as close to this as possible. Ongoing performance measurement should pick up any significant drops in CEI, as these indicate a problem with the collection processes.
CEI and DSO should move in different directions as performance enhancements are made to AR processes, such as e-invoicing or automation. CEI provides an overall measure of quality of collection processes, rather than DSO or ADD which are measurements of time and reflect broader AR processes.
Accounts Receivable Turnover ratio (ART)
The ART ratio indicates cash flow and liquidity through a measurement of how frequently accounts receivable are turned into cash. ART is measured over a period of time, typically a year. ART is calculated as:
ART = net credit sales / average accounts receivable
As any CFO, CEO or senior financial role will be aware, cash flow is extremely important for the health of a business. Free cash flow determines how much money is left to reward shareholders, or to reinvest for business growth. Measuring ART keeps tabs on how effectively AR processes are supporting this.
Number of revised invoices
Whilst this isn’t a standard, formal, metric, the number of revised invoices generated over a given period is valuable to track. This determines the quality of the outgoing invoices and can help identify needs to improve initial invoice quality through automation or better access to information.
And invoice revision that is required adds additional workload to the AR team, and time to the invoicing process. AR automation is a proven approach to reducing inaccuracies in invoices and flows well into the wider remit of electronic invoicing.
Improving Accounts Receivable performance after measurement
Whichever metrics (hopefully all) you are measuring, you need to think what you intend to do with the learnings. Determining that your DSO is well beyond your industry average, but without a plan to address this, measurement is meaningless.
Solutions such as electronic invoicing and AR automation present a popular route to addressing AR performance challenges. The beauty of these solutions is that they support your existing AR team and processes, enabling AR teams to focus on more valuable work that can’t easily be automated or digitised. The biggest threat to business success is, often, wasted time – at Netsend, our AR solutions improve productivity and enable you to focus on your business.