Originally published on Thrive, a Lexmark blog for finance professionals.
Days Sales Outstanding or DSO is the measurement of the average length of time it takes a business to collect revenue after making a sale.
Why is this important? We particularly liked this explanation from the ‘Investing Answers’ financial dictionary:
“Days sales outstanding is important because the speed at which a company collects cash is important to its efficiency and overall profitability. The faster a company collects cash, the faster it can reinvest that cash to make more sales.
“Comparing DSO among companies can often give analysts a good idea of which companies manage credit well and use receivables efficiently to grow their businesses. A relatively low DSO indicates that a company collects its receivables quickly, and a high DSO indicates the opposite. Similarly, a company with an increasing DSO over time could be becoming less efficient, while a company with a decreasing DSO over time could be becoming more efficient,” the post stated.
And today’s accounts receivable professionals recognize how critical DSO is. A recent Aberdeen Group study found that 59% of accounts receivable executives surveyed rated ‘reducing day sales outstanding’ as the top market driver in their positions.
So, then, how can DSO be reduced?
There are a range of methods, and plenty of simple things you should think about to help get DSO as low as possible. Fast invoicing is a great start – making sure you get the invoice to the customer as soon as possible, and fast payment incentives can also help get customers ‘across the line’ more quickly. Allowing online payments can make it easier, and of course a friendly reminder never goes amiss when required. Examining your credit approval process & offering payment plans are among other factors to consider when looking at your overall process.
How can automation solutions help?
Implementing an accounts receivable automation solution like ours won’t equate to an automatic reduction in days sales outstanding, however, crucially, it can improve clarity and focus in your accounts receivable department so you can concentrate on the valuable efforts that will reduce DSO.
What do we mean here?
Automation provides a better picture of true account balances. If a company takes several days to apply payments, they don’t know exactly who they should be focusing on for collections, and therefore reductions in DSO are difficult. Automation helps you allocate cash faster, and brings a reduction in this cycle time which can help you reduce DSO.
Unapplied cash doesn’t always reduce DSO (since it is a blanket measurement, not on individual accounts or applied payments), but it certainly does create customer dissatisfaction if a customer has made a payment but it isn’t applied yet – as the collections staff may be following up with them. This is a waste of everyone’s time. In addition, automation of accounts receivable processes offers you faster and better visibility & clarity in the receivables status. So, if you have a customer that is slipping in their outstanding balance, identifying this faster will help you to tighten the credit extensions to that customer. Even a few days could mean an increased balance and larger threat of bad debt.
On the opposite end of that point, credit decisions are based on outstanding balances – so if payments are unapplied, a customer may not be able to make additional purchases even though they have made their payment (it just isn’t reflected yet). Again, an automation solution helps you to keep the reliable customers buying, which is healthy for your DSO.
Finally, with the removal of non-value-added manual processes, automation solutions like Lexmark’s can offer better worker efficiency and more time to focus on value-added tasks, and you’ll enjoy quicker month-end/period-end closings.