There's no doubt that credit has become a necessary evil amongst small and medium-sized businesses. Offering it stopped being a competitive advantage long ago, and not doing so clearly increases the chances of failing to succeed in your endeavors. In this landscape, knowing how to manage account receivables is crucial.
This article aims to equip you with the right mindset and tactics to help you take control of your account receivables management process and start using it to fuel growth and cash flow predictability. Sound like your cup of tea? Let’s get started.
1. Know your KPIs
If you want to know how to manage account receivables like a pro, first, you need to know where your north star is. Establishing clear (and useful) key performance indicators will help you understand the full picture and quickly help you identify which parts of your mechanism are failing.
When it comes to AR, there are 4 KPIs you need to be monitoring 24/7:
- Days Sales Outstanding (DSO): This metric lets you see how many days, on average, your company takes to collect a payment after a sale has been made. The lower your DSO, the faster you are getting paid. How many days after the sale is a healthy DSO? Well, it depends on the industry, but below 45 is usually considered a “good” DSO.
- Account Receivables Turnover Ratio (ART ratio): The turnover ratio calculates the frequency with which a company's receivables are collected during a given period. It strongly correlates with DSO since you can reduce the days it takes to collect a payment, and you’ll be able to collect more in less time. These two paired KPIs are by far the most useful for making your AR management more efficient. A 7.8 annual ART ratio is considered healthy.
- Average Days Delinquent (ADD): Not to confuse DSO, this vital KPI tells you the average number of days your client payments are overdue. Remember that the more days they are overdue, the more difficult it becomes to recover that debt. You are in the clear if you can keep it below 15 days.
- Collection Effectiveness Index (CEI): This tells you the percentage of accounts you are turning over from the total you extended credit to. A CEI above 80% is generally considered good.
While there are general health levels for KPIs when it comes to AR, like the ones we mentioned, remember that the industry you are in and the current state of your business can significantly change the objectives you should aim for. When defining your targets, try to go for a figure that, while challenging to reach, is still realistic and accessible. Otherwise, you can get frustrated very quickly.
2. Set clear Credit and Collection Policies
The first and, by far, most effective tactic to reduce overdue payments happens before you even extend credit to a customer. Addressing which customers are eligible to get credit (and how much of it) will significantly reduce the risk and headaches that come with overdue payments. Creating a crystal-clear Credit policy for anyone in your company to address client eligibility is vital.
Unfortunately, this will not eradicate overdue payments for good, so a solid collection policy is also needed to take a straightforward and proactive approach to addressing the problem. As previously mentioned, the more days an account is overdue, the more difficult it is to collect. So, you should focus on proactively avoiding them getting past due through automated, personalized reminders and more accessible payment methods, which is an excellent segway to our next tip.
3. Make it easier to pay— Go mobile
If there’s one tip that works every time for effective account receivables management, it is to reduce customer friction as much as possible throughout the collection process.
Introducing Mobile Payments into your operations is an excellent way of doing that. Why? Hmm, maybe because more than 83% of the population has a smartphone, and 79% of smartphone users have made at least one online purchase using it.
Mobile payments offer many benefits, including convenience, flexibility, and personalization, all related to reducing friction. The future of payments is mobile, and that’s where you should be focusing your efforts.
4. Automate communications and collections
Did you know that automation is estimated to save employees six weeks per year?
Technological advancements have made automation more accessible, and it is becoming a vital tool for many industries and processes. Leveraging systems that eradicate repetitive, manual, and time-consuming tasks is taking operational efficiency to new all-time highs.
One sector that is increasingly incorporating automation into its processes is communications. When it comes to the tedious task of debt collection, there are many ways you could benefit from it.
AR management platforms like Arrears® are leveraging automation and AI to empower business owners to create comprehensive collection campaigns and set up effective payment reminders in minutes. They allow significant levels of personalization through dynamic message templates and an omnichannel communication approach that tailors every message to the channel that the customer prefers.
This level of automation, combined with personalization at scale, is redefining how businesses manage their account receivables, making cash flow predictability a reality.
The bottom line is clear: Account receivables are a crucial asset for your business, and their proper management can completely turn around the direction of your ship.
Efficient account receivable management is about strategy, foresight, and adaptability. It’s about being proactive, reducing friction, and, ultimately, optimizing for growth.