Resolve to Be More Proactive in 2024
If You Are Constantly Putting Out Fires, Your AR Cannot Be Managed Effectively
Two weeks ago we recapped the three most read articles from 2023: identifying red flags, understanding why customers pay late, and the secrets of successful collectors. Then last week we looked at credit hold best practices. From a credit management perspective, these are largely reactive topics. There is nothing wrong with that. In fact, once you decide to sell a customer on open credit, most of the accounts receivable (AR) management tasks that follow have a reactive component.
The need to know how to react to AR challenges is the likely reason topics about responding to credit and collections risks are so popular. However, the better you are at being pro-active and strategic in your approach to credit and collections, the less will be your need to react. In the final analysis, constantly putting out fires indicates a failure to manage effectively. It is also indicative of a lack of control.
To help you maintain control of your AR, this issue will discuss four steps you should take to make your credit and collections more strategic. They are:
Perform a Segmentation Analysis of Your Receivables
Adjust your Credit and Collection Strategies Based on Your Analysis
Streamline Your Processes and Workflows
Find Solutions to Repetitive Issues
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Segmenting Your AR Portfolio
When engaged in a consulting project that involves making improvements to a clients AR processes, the first thing I do is perform a segmentation analysis of the receivables. Typically, the client has some idea of where the problems lie, but after performing the analysis, we almost always find the primary problem is something they did not recognize.
For example, one client was sure their cash flow problem was due to issues with their largest accounts, the top 10 or 20 percent of customers, but the segmentation analysis clearly showed that was their best performing group with the primary problem being the mid-sized accounts. Once this was revealed, a solution was crafted that generated $4 million in additional cash flow over the next six months for this $30 million a year regional enterprise.
Segmenting your receivables can be based on any number of criteria: industry type, distribution channel, customer risk rating or score, credit limit, AR aging and so on. While these are all useful as a secondary segmentation, the place you want to start is with customer annual purchases from your firm. By ranking your customers this way you can readily identify your key customers, the 10 to 20 percent of accounts that generate 80 to 90 percent of your revenue. We often find 30 to 50 percent of customers only generate 5 percent of revenue — these are your least important customers, but keep in mind they require a disproportionate amount of your support time. That leaves another segment of accounts in the middle that though not key customers, still make a significant contribution to revenue as a segment.
Once you have segmented for revenue, you can then look at secondary factors. For example:
Do any of the segments account for a disproportionate amount of AR balances that are over 60 or 90 days past due?
Using credit scores, how is risk distributed among each segment?
Are the assigned credit limits appropriate for each segment? Are there pockets of customers that could generate more revenue, or other sub-segments that should be restricted further?
Which distribution channels are performing the best and worst from a credit perspective?
This slicing and dicing of your AR portfolio generates insights that you will not be able to otherwise comprehend. Based on those insights you can then make adjustments that will improve AR performance.
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Adjusting Credit & Collection Strategies
When you have done a good job segmenting and analyzing your receivables, it is not difficult to see where you should take action. This often requires a change in strategy, not just tactics. If you focus first on tactics, the quick fixes, you may overlook more strategic opportunities to improve AR performance.
From a credit perspective, the goal is consistency in your risk assessments that align with your risk tolerance. Most sales driven organizations tend to be overly permissive, especially with their key accounts. As a result, their exposure to risk can exceed their level of tolerance. In contrast, profit driven enterprises often miss opportunities because they are too restrictive out of a fear of bad debt losses. A segmentation analysis will help you refine your credit policy guidelines and thereby improve the efficacy of your credit decisions.
From a collections perspective, performance is improved by the proper allocation of resources. Collections is a time management challenge. Where most organizations fail is dedicating too much time and effort to the 80 percent of customers that only account for 20 percent of revenues. That is why I advocate a near zero past due tolerance for the bottom 40 percent of accounts who typically contribute 5 percent of revenue. If they can’t pay on time, they should be asked to pay in advance or at the point of sale by credit card. This will immediately free up more time for collecting from the 60 percent of customers that generate the bulk of your revenue. From this point you can adjust your collection strategies to achieve and optimal balance between calls, emails, and the timing of those activities. In addition, your segmentation analysis will provide guidance relative to pockets of customers that require additional effort.
Please feel free to share this newsletter with your small business customers . . . it just might help them pay you sooner!
Streamlining Processes and Workflows
Another area where being proactive can reduce downstream issues involves your order-to-cash (O2C) process and the tasks associated with it. If you are largely manual, automating your AR management will yield significant productivity improvements. If you have already automated your AR, it is very likely that there are process gaps that require manual intervention. Anything you can do to automate or streamline these gaps will enhance process efficiency.
A good place to start is to map out your O2C process. Another approach is to identify the logjams: the activities that are consuming the most resources and taking the most time to complete. By flow-charting your current processes and activities, you can more readily see where the problems are. This will also show you any unnecessary or low value tasks being performed. Then it is just a matter of defining a better process and applying automation if possible.
Here are three examples of typical bottlenecks and the remediation you can take:
Backlogs onboarding new customers and processing their initial orders
Implement online credit applications
Don’t offer credit unless orders meet a specified threshold (accept credit cards instead)
Excessive time being spent resolving payment deductions
Improve invoice accuracy by identifying the root cause of the deductions
Approve all deductions below a specified threshold
Remittance processing backlogs
Automate with matching algorithms or Artificial Intelligence (AI)/Machine Learning (ML)
Implement a Electronic Invoice Presentment and Payment (EIPP) platform
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Automate Repetitive Issues
As illustrated above, repetitive issues such as payment deductions or applying payments can become bottlenecks that require a process solution. However, repetitive issues can also just be something that is required to be done repeatedly. Whenever that is the case, there is a time saving opportunity. In these situations, AI offers great promise as already noted. Here are some additional repetitive situations that AI can address:
Answering requests for invoice copies or shipping documentation
Drafting email requests for payment from past due accounts
Matching customer Purchase Orders (POs) with order details
Transcribing collection call conversations (make sure you have the customer’s permission to record the call) — down the road you can ask an AI chatbot to recommend responses based on all past conversations, but that’s another story
There are any number of O2C activities that are repeated on a daily basis. The point is that instead of reacting to the trigger for these activities, AI tools can be implemented to do the work for you, saving you time to address more important issues. That in summary is the advantage to being pro-active: it allows you to engage in higher value endeavors.