The presence of debtors in any business indicates that the business is providing financing to its customers for their purchases.
This financing is balanced by the credit the business receives from its suppliers.
Many businesses establish their trade terms based on industry standards and their own financial resources. It is essential to manage the cash flow required for the business by closely monitoring the value of debtor days, also known as Days Sales Outstanding (DSO). DSO is a critical performance metric in the debt collection process, measuring the average number of days it takes to collect payment for sales.
It is important to note that DSO reflects the efficiency of collections in terms of converting invoices to cash quickly, rather than the effectiveness of collection activities in encouraging desirable client behavior.
By using a DSO calculator, you can assess the impact of reducing your DSO on releasing cash back into your business. A lower DSO indicates that clients are paying their invoices promptly, while a higher DSO suggests slow or late payments. A high DSO means the company is relying on its own cash reserves to fund the business instead of utilizing cash recovered from clients. Ideally, businesses should be able to use revenue from sales, rather than capital, to replenish stock or meet financial obligations such as salary payments.
If a client's DSO closely aligns with the agreed payment terms, it indicates good payment behavior. However, if the DSO exceeds the payment terms (e.g., 60 days for a 30-day term), there is room for improvement. A low DSO can also be an indicator of client satisfaction and overall business quality, as satisfied clients tend to pay their bills promptly.
While there are no universally right or wrong DSO values, industry-specific forums often provide access to common benchmarks and best practices. For example, in some industries, maintaining a DSO in the high 30s or very low 40s when the payment terms are 30 days is considered a reasonable goal. Achieving consistently below 35 days would be regarded as best in class. It's important to consider the target as an average since different types of transactions may have varying terms, and clients may have different payment terms based on their categories.
One valuable application of DSO is analyzing its trends over time across different dimensions. By breaking down DSO by account manager, geography, client sector, size, project, or product, businesses can gain insights and identify areas for improvement. Encouraging healthy competition among collections staff by measuring their performance based on DSO can create a positive atmosphere where individuals strive to minimize DSO for their assigned accounts. Prioritizing calls to clients with the highest impact on DSO can be an effective strategy.
Some organizations use the value of a single day's DSO as a target for sales or account managers to encourage clients to settle outstanding dues. If each account manager successfully reduces DSO by a day, the business can recover a significant amount of cash without incurring additional sales costs. In certain cases, reducing DSO by 10 days may prove more beneficial to the business than increasing sales by the same amount.
While focusing on DSO is crucial for cash management, it is important not to become complacent. Traditional techniques and activities in collection management should remain ongoing to maintain a clear focus on reducing DSO.
To effectively manage DSO and reduce it, you can leverage tools such as Collect 365 and Collections Management for Dynamics GP. These solutions can help you analyze your current DSO and implement strategies to improve it.
To learn more about Professional Advantage and Collections Management for Dynamics GP, you can visit our website!