For distribution companies to succeed they not only have to drive sales, but they also have to collect on their Accounts Receivable in timely fashion. In challenging economic conditions consumer spending dries up or slows and credit availability becomes tight. As a result, distributors' customers will delay payments as a way to conserve cash and this can cause distribution businesses to run out of cash or even to fail in a credit crunch. Distributors and wholesalers need strong distribution accounting software to stay on top of their cash flow all the time not just in difficult sales cycles or just at certain points during the year.
Tightening up the Accounts Receivable Controls in your Distribution Accounting Software is Always a Good Practice
These are some of the benefits of better Accounts Receivable controls:
- Reduced risk of write-offs.
- Reduced risk of commission charge-backs.
- Improved liquidity. If you’re not a bank, then don’t act like one. Keeping liquidity strong helps your credit line balance. That frees up cash for new purchases.
- Better operational procedures. If all customer information is available in your distribution accounting software system, all employees can access accounts, solve problems, be alerted to credit holds, and view customer status instantaneously.
There are several strategies you might want to consider.
Evaluate Your Accounts Receivable Policy
Sometimes the problem lies with the structure of your accounts receivable policy. When reviewing your current company policy, consider:
- Requiring larger down payments. This can help you increase working capital.
- Reducing your terms. For instance, if you offer 90 days, lower it to 60 days; or if it’s 60 days, lower it to 30 days. Did you know that there is an inverse relationship between the age of your receivables and the likelihood of you collecting on them? Statistically speaking, the sooner you collect, the less likely your customers will be to delay payment or request discounts.
- Tightening credit requirements. One of the biggest questions to ask is, “Who gets credit?” Tell customers about your credit requirements up front and require a personal guarantee. Don’t be afraid to deny credit.
Being consistent in how you apply your policy. Notify customers of the terms before the sale, extend credit only to those who meet your requirements, and ensure invoices are sent in a timely manner and contain accurate billing information. They may leave for other reasons, but customers generally don’t leave because you require payment according to your stated agreement.
Tightening up your accounts receivable policy can increase the amount of money you collect from your customers.
Check Out Your Collection Effectiveness Index
Companies frequently use days sales outstanding (DSO) – how many days it takes to collect a payment after a sale – to determine how efficient they are at collecting outstanding accounts receivables. The lower the number, the better the turnaround, and the greater chance that company will be successful.
The formula for DSO is:
Accounts Receivable x 365 / Annual Revenue
However, another suggestion is to use the collection effectiveness index (CEI). According to Accounting Tools, the collection effectiveness index compares the amount that was collected in a given time period to the amount of receivables that were available for collection in that time period. A result near 100% indicates that a collection department has been very effective in collecting from customers.
The CEI combines the beginning receivables for the measurement period with the credit sales for that period, less the amount of ending receivables, and then divide this number by the sum of the beginning receivables for the measurement period and the credit sales for that period, less the amount of ending current receivables. Then, multiply the result by 100 to arrive at a CEI percentage.
The formula for CEI is:
((Beginning receivables + Monthly credit sales - Ending total receivables) ÷ (Beginning receivables + Monthly credit sales - Ending current receivables)) x 100
Focus on Closing Overdue Accounts
The longer an account stays open, the longer you have to worry about it. Instead, consider closing all accounts that are 60 days past due.
Additionally, involve your sales staff. Sales teams have special relationships with your customers and rely on their sales to make a living. Therefore, they are motivated to collect payments. Otherwise, don’t pay commissions on outside sales that are unpaid after 90 days.
Make Sure Your Distribution Accounting Software is Giving You the Information You Need
Running tight accounts receivable and credit check policies are critically dependent on getting the data. Your distribution accounting software has to give you accurate and timely accounts receivable management information. An ineffective wholesale accounting software system can slow the process which is bad or lead to making poor decisions about extending credit which is even worse. A poor decision to extend credit to someone that doesn’t pay or needs to be dunned for payment can eliminate any profit on the sale and cause cash flow issues. An unreliable distribution accounting software system or manual billing processes can mean dealing with challenges such as extra handling costs and errors in manual data entry.