No One Wants the Dollar Menu Award
by Scott Michelsen, ICCE, Kenworth Sales Co.
Sometimes we seem oblivious to things of significance that are happening all around us. While the rest of the world was busy ringing in the New Year on New Year’s Day 2020, health officials and politicians in Wuhan, China, were struggling with a deadly and highly contagious new virus which was spreading like wildfire. Who could have known the impact that “COVID19” would have had on the rest of the world?
In a similar way many of us do not fully understand the significant positive impact we can have as Credit and Collections professionals on the companies we work for, the people we work with, and the customers we serve.
Building and nurturing relationships with internal company stakeholders, external customers and vendors is paramount to our success. Those who have mastered the art of “Relationship” are more successful; the key is a genuine, positive, friendly, professional, supportive approach and demeanor. The focus should always be on others. When building relationships do not be afraid to talk about family, sports, and subjects that are interesting and important to your audience. Keep it upbeat, positive, and fun. Stay in focus and in the moment; your audience should feel that they are important and that they have your complete attention.
The first rule of Credit and Collections management is “KNOW YOUR CUSTOMER”. As you develop strong relationships your invoices will be paid faster, you will know what customers are struggling and are at risk, and you will be able to effectively navigate vendor agreements that will save your company hundreds of thousands of dollars.
Early in my career I worked as a Collector for a well-known Fortune 500 company with regional offices across the nation. Each month the regional office with the best numbers was highlighted and treated to lunch at an expensive steak house. At the same time, the team with the worst numbers was also highlighted and treated to the “Dollar Menu” at McDonalds; no one wanted the “Dollar Menu Award”.
World Class performance is driven both by individual and team accountability. Blocking off time every week to meet with every team member individually and in regularly scheduled weekly team meetings drives accountability and success. This allows you to better understand the challenges they are facing and offer training and assistance where needed. Team members will feel like they have better access to you and will also learn to hold you accountable and solicit your assistance. This routine is repeatable and works well. By leveraging this routine in my current role, we have identified and implemented many process improvements, improved our DSO by 9 days, and brought in over $5 million in Working Capital over the past 12 months. In former roles the results have been equally impressive generating $65 million in Working Capital for one company and $425 million in Working Capital for the other.
To the extent that team members are thanked and recognized for their efforts; performance, morale, and Working Capital increase. Team members must know that their efforts are appreciated. There are literally hundreds of ways to show appreciation, often at little or no cost. Recognition done right, with a sincere expression of gratitude, becomes a motivating factor driving individuals and teams to excellence.
The effective use of Accounts Receivable (AR) performance metrics drives accountability and team members to excellence. When people know how they are doing, they are driven to do better. In AR there are many metrics that can be used.
Percent Past Due
One of the most effective AR metrics is Percent Past Due (%PD). When published at least monthly, performance improves.
%PD = (Total Past Due / Total Outstanding Open AR)
Another common AR metric that is used is Day Sales Outstanding (DSO). DSO measures the average number of days to collect payment. Since one key component of the DSO calculation is Sales Revenue, DSO alone may not be a good metric to measure AR performance; especially for companies that have broad swings in their monthly Sales Revenue.
DSO = (Total Outstanding Open AR / Period Sales Revenue) x (Days in the Period)
Another metric that is useful when measuring performance is Best Possible DSO (BPDSO). BPDSO measures the average number of days a company would be paid if they were paid in accordance to terms.
BPDSO = (Not Due Open AR / Period Sales Revenue) x (Days in the Period)
Comparing DSO to BPDSO becomes a powerful metric on how well an AR team is doing. The closer DSO and BPDSO are together, the better the performance. A small spread is an indicator that invoices are being paid close to the Due Date; a large spread means that there is much room for improvement.
Many companies totally miss out on Working Capital opportunities related to Billing Efficiency, because they do not actively track how quickly they are billing their customers after product has been sold or service has been rendered. Since DSO only tracks performance based on the invoice date, the DSO calculation does not capture how much Working Capital money is being left on the table due to billing slowness; hundreds of thousands or even millions of dollars in Working Capital may be unknowingly lost. The logic is amazingly simple, “THE SOONER YOU BILL, THE SOONER YOU GET PAID”.
About 10 years ago I worked for a company that did a lot of service work. Routinely the technicians would send their service tickets to headquarters for processing. That paperwork would end up in a wire basket and be processed and invoiced whenever the billing group got around to it. It seemed like there was always a crunch to get the billing out by the end of the month. After working through a Six Sigma session with the billing team, we determined to accelerate our internal billing processes; we however neglected to advise the Financial Planning & Analysis accountants of that change. The next month there was an unexplainable $25 million increase in Working Capital which left the FP&A accountants scrambling to explain why their forecast was off, and what had changed in the business.
The Terms Game
There is a growing trend in US business to push suppliers for extended payment terms. Often, they apply a strong-arm approach. “IF YOU WANT OUR BUSINESS, WE EXPECT 90- OR 120-DAY PAYMENT TERMS”. Naturally, they expect their customers to pay them in 30 days while asking their suppliers for much longer terms. Some have developed this to an art, leveraging platforms like ARIBA and TAULIA. Not only do they want extended terms, they now require you to input your invoices into their ARIBA or TAULIA platforms and want to charge you for that privilege of doing their work for them. If you want your payment any earlier, they will discount your invoice and maybe even require you to do more work on their platform.
Giving extended terms is actually giving up Working Capital. Each day of Working Capital is equivalent to one days’ worth of sales revenue for your company. If for example your company has an annual Sales Revenue of $365 million, one days’ worth of sales is $1 million. If your DSO slips by one day because you have agreed to grant extended terms, you have just given up $1 million in Working Capital.
As Credit and Collections professionals how do we effectively respond to these requests for extended payment terms?
- Investigate what payment terms your supplier expects their customers to pay them? If they expect to be paid by their suppliers in 30 Days, bluntly ask them the question, “How is this fair; you require your suppliers to pay you in 30 days, and expect us now to be paid in 120 days?
- If the company requesting the extending terms is both a customer and a supplier to your company, remind them of “The Golden Rule”, and let them know that effective immediately your company will match the same payment terms they are expecting from you. If they want extended 90-Day payment terms, you will now pay them in 90 days.
- If all else fails, remind them of the cost of money. Since there is a time value cost of money associated with granting extended terms, to compensate for this cost of money there will be price increases for the products and services you are rendering.
Do not forget to include the internal stakeholders in this dialog so that they are on board. Sales and Marketing will be skittish about doing anything to rock the boat with their customers. Your CFO or Treasurer should be supportive. When positioned appropriately you should be able to get your customer to back down.
Our role as Credit and Collections professionals is critical to the success of the companies we work for. It is one of the few Finance roles in a company that actually has the potential of adding significant Working Capital to the bottom line. When thinking about what we do, I like the Baseball analogy. In Baseball there are those who keep the Statistics, they are the Accountants. The Referees are the Auditors. The CFO’s and the Controllers are the Team Owners and the Coaches. The Sales and Marketing guys are playing offense and scoring runs. As Credit and Collections professionals we are alongside the Sales and Marketing guys scoring runs and playing a strong defense. If we play well, both the team and the company win.