It is your accounts receivable (AR) staff that is responsible for fueling the fires of your business if cash is the gasoline that drives your company. Having a clear perspective of how the company is tracking its collections and where there is space for improvement is vital for your accounts receivable team if you want to enhance your accounts receivable performance. It is necessary to have access to the appropriate data and analytics to do this, and it is even more essential to be aware of what to do with the data.
In terms of how well your collection efforts are functioning, there is no one key performance indicator (KPI) or measure that can give you the whole picture! Because of this, it is advantageous to actively monitor several accounts receivable key performance indicators. You will be able to discover the strengths and weaknesses within your AR processes if you have this data easily accessible to you. This will allow you to make informed choices and progress your company.
Accounts Receivable Turnover Ratio
Throughout a certain accounting period, AR Turnover Ratio evaluates how effectively and rapidly a firm can convert its account receivables into financial assets. To calculate the AR Turnover Ratio, net sales are divided by the average amount of account receivables.
When a firm has a high receivables turnover ratio, it may indicate that the company’s collection of accounts receivable is effective and that the company has a large number of high-quality customers who satisfactorily pay their bills. In addition, a high receivables turnover ratio may be an indication that a corporation runs on a cash-based business model.
To get valuable insight into the efficiency of accounts receivable collecting process and determine whether or not there is room for improvement, your AR turnover ratio may provide valuable information. In most cases, a greater AR turnover ratio leads to better results. In an ideal situation, the ratio should be between seven and eight, however this varies depending on the business.
Expected Cash Collections
Expected cash collections refer to the projected amount of cash that a company anticipates receiving from its customers within a specified period. This estimation is based on factors such as past payment patterns, sales forecasts, and credit terms.
Expected cash collections matter because they let businesses predict how much money they’ll soon have. This foresight allows companies to make smart choices about spending, investing, and saving to keep running smoothly.
Average Collection Period
ACP focuses on the average length of time it takes a company to collect payment for its sales. Imagine it as a snapshot that captures the overall collection speed. The calculation involves dividing the accounts receivable balance (total amount owed by customers) by the net credit sales (total revenue from credit sales minus returns and discounts) for a specific period, typically a year. This figure is then multiplied by the number of days in the period (usually 365) to express the average collection time in days.
For instance, if a company has an accounts receivable balance of $100,000 and net credit sales of $1 million over a year, its ACP would be (100,000 / 1,000,000) x 365 = 36.5 days. This translates to an average wait time of approximately 36.5 days to collect payment after a sale.
Days Sales Outstanding
DSO, on the other hand, provides a more day-to-day perspective on collection efficiency. It reflects the average number of days that a company’s outstanding invoices represent in terms of sales. The calculation involves dividing the accounts receivable balance by the average daily sales, which is obtained by dividing the net credit sales by the number of days in the period. Finally, this figure is multiplied by the number of days in the period (usually 365) to express DSO in days.
Collection Effectiveness Index
This key performance indicator (KPI) assesses the proportion of your total accounts receivable that is collected within a certain time period. It is also known as the Collection Effectiveness Index (CEI). If the CEI is greater, it implies that the collecting procedure is more efficient, while a lower CEI shows that there are inefficiencies. When opposed to DSO, which is more concerned with time, it allows for a more accurate depiction of the collecting activities.
Average Days Delinquent
Average Days Delinquent measures the average amount of time that an invoice goes unpaid beyond the day that it was due. It is indicative of a quicker reaction to late payments when the average number of days delinquent is lower. A higher average indicates that there is a need for more robust collection techniques in order to resolve late payments in a timelier manner.
Number of Revised Invoices
It is essential to keep a close watch on the number of invoices that need to be corrected after they have been issued. Errors in invoicing, problems with the product or service, or a lack of clear communication with clients might be the cause of a significant number of invoices that need to be changed. This assists in identifying areas in which there is room for improvement in terms of client communication and billing accuracy.
Bad Debt
The term “bad debt” refers to the amount of money that is owed by customers but is not likely to be recovered. It is indicative of successful credit management and collection efforts when the rate of bad debt is low. A significant amount of bad debt indicates that there is a need for more stringent credit criteria or more active collection activities in order to reduce losses.
Percentage of High-Risk Accounts
It is of the utmost importance to keep track of the proportion of clients who are regarded to be high risk owing to their negative payment history or their unstable financial situation. Strong credit screening methods are shown by a low number of accounts that are considered “high risk.” When the proportion is high, it indicates that there is a need for more stringent credit controls or more aggressive collection techniques for these accounts to reduce the risk.
Staff Productivity
It is essential to evaluate the effectiveness of your AR staff in terms of maintaining client connections and collecting payments. Numerous measures, such as the number of invoices handled in a single day, the average amount of time it takes to settle disputes or the cost of collecting for each dollar that is recovered, may be used to evaluate the productivity of the staff. High staff productivity is indicative of an effective AR team, and analyzing the particular metrics that are used may assist in identifying areas that might require improvement.
Customer Satisfaction
It is beneficial to understand the amount of happiness that customers have with the AR process, which includes the accuracy of the invoices, communication, and the settlement of any disputes that may arise. This is something that may be evaluated via the use of consumer feedback channels or questionnaires. A seamless and trouble-free augmented reality experience is reflected in high levels of client satisfaction. There is a correlation between monitoring for negative feedback and finding opportunities for change, which may lead to improved relationships with customers.
Streamline your Account Receivables Now!
Think of KPIs as your financial compass, guiding you towards a smoother and more efficient AR process. By monitoring metrics, you gain valuable insights into how long it takes customers to settle their bills. This knowledge empowers you to identify potential problems like slow collections or late payments, allowing you to take corrective action before cash flow suffers. But KPIs go beyond just identifying roadblocks. They also help you measure the effectiveness of your existing collection strategies. KPIs don’t just reveal weaknesses; they also celebrate strengths.
Ultimately, tracking KPIs in AR empowers you to make data-driven decisions. It’s the difference between operating on assumptions and operating with actionable insights. With a clear understanding of your AR performance, you can implement targeted improvements, accelerate collections, and minimize bad debt. This translates to a healthier cash flow, improved financial stability, and ultimately, a more prosperous business.
Ready to optimize your accounts receivable process and improve cash flow? NCRi Inc. is a leading provider of accounts receivable management solutions. Our team of experts can help you analyze your AR performance, identify areas for improvement, and implement strategies to accelerate collections and minimize bad debt. Contact us today for a free consultation and learn how we can help you achieve a healthier bottom line!
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