There’s more to measuring the success of your accounts receivable than just the bottom line. How your business manages this crucial function and the working capital it generates depends on monitoring a number of key performance indicators (KPI) that all play an important role in the efficiency of your AR operations. As the world of commerce evolves and expands, the complexity and scope of these functions have become greater. Neglecting to watch these metrics could leave you vulnerable.
With that in mind, here are some of the essential bits of data you should pay attention to for your accounts receivable:
- Days Sales Outstanding: It’s important to track how long it takes to receive payments based on the date of the invoice. You want this number to be as close as possible to your average terms of sale. It’s generally advised that seasonal businesses should calculate this based on the last 90 to 180 days of revenues, as annual averages can be misleading.
- Average Days Delinquent: The average number of days that payments are overdue can be an indicator of serious problems to come. The longer you wait for payments, the more it should serve as a warning that your systems, collections and invoice processing could use some tweaking or even a complete overhaul.
- Accounts Receivable Turnover Ratio: Dividing your net credit sales by your average accounts receivable balance gives you this turnover ratio. It measures how effectively you collect revenues as a benchmark. The higher the ratio, the faster you convert your AR into cash, giving you more liquidity and access to working capital.
- Collection Effectiveness Index: This KPI measures how effective your organization is at collecting all outstanding money in a given timeframe, usually one year.
- Number of Invoicing Disputes: If you have a high number of invoices that need revision or credits issued due to billing or processing errors, it could mean there are systematic problems that should be resolved ASAP. These could range from data entry issues to inefficiencies in your invoicing procedures.
- Deduction Days Outstanding: This figure is determined by calculating the average daily deductions received during a specific period of time and dividing the total outstanding deductions by the average per day.
- Bad Debts to Sales Ratio: In addition to measuring bad debts as a percentage of revenues, it’s important to compare the credit losses against sales gained from lax credit risk policies or lost due to overly restrictive corporate credit policies.
- Percentage of High-Risk Accounts: It is not always possible to avoid dealing with high-risk customers, so it’s necessary to watch these accounts and be prepared to offset them with credit instruments, terms or pricing.
Measurement Is Crucial
Watching these KPIs can help make you aware of potential problems before they have a chance to significantly disrupt your operations. If your AR department isn’t already tracking these, now is the time to start. Adopting accounts receivable automation can make this tracking much easier and more accurate, so you can get all the details you need.