Most businesses track DSO as the major metric for AR management. DSO tracks the average time it takes for consumers to make all of their bill payments – early, on-time, and late. Average Days Delinquent (ADD), on the other hand, simply considers overdue payments.
Since average DSO looks at payment timeframes for your customer base as a whole, it gives you an idea of how good your typical customer is at making payments on time. On the other hand, ADD, in general, gives you a sense of how serious late payments are.
WHAT USE DOES IT SERVE TO CALCULATE THE AVERAGE DAYS DELINQUENT?
Because DSO considers customers' payment schedules as a whole, it is feasible for two subsets of customers – one, who pay you extraordinarily early and, two, those who pay you exceptionally late – to cancel each other out. This may obscure the issue of late payments, which is why examining late payments separately from ADD offers a useful viewpoint.
To gain insights, collections staff members typically combine their examination of ADD with DSO. ADD and DSO generally show a similar tendency, either a drop or an overall improvement in the efficacy of collections. Any new innovations in your collection’s procedure are probably the cause of DSO and ADD rising or falling concurrently.
However, if they go in opposing directions, it usually means that there is another element at work, such a recent modification to your terms of payment (like a tightening of credit rules or a shortening of the collections cycle).
If your DSO and ADD are higher than you would like or anticipate, there may be issues with your internal operations or clientele. Understaffing, disorganized collecting procedures, or poor customer service are examples of internal problems.
SO, HOW DO WE DERIVE ADD?
Finding your DSO and best potential days sales outstanding (BPDSO) is the first step in determining the average days delinquent computation, which can be done easily using a simple formula. The ideal timeframe for payment collection is indicated by the best feasible DSO. It illustrates how quickly, in an ideal world, you could get paid.
The formulas to compute those measures are as follows:
DSO = (Total Net Credit Sales ÷ Accounts Receivable) x Number of Days in Period.
BPDSO = (Total Net Credit Sales ÷ Current Accounts Receivable) x Number of Days in Period.
After figuring out those numbers, you can plug them into the following formula to get the average number of days past due:
DSO – BPDSO = ADD
ILLUSTRATION OF HOW TO CALCULATE ADD:
Consider a business named ABC Org. Between January and March, the company's net credit sales amount Rs. 1,20,000 over a ninety-day period. ABC Organization has receivables of Rs. 80,000 during those same ninety days.
The DSO for the company is sixty days (60 × [Rs. 80,000 ÷ Rs. 120,000] × 90 days).
The present (i.e. not past-due) value of ABC Organization's receivables is Rs. 32,000. Based on this, the company's maximum DSO would be 24
(i.e. [Rs.32,000 ÷ Rs.120,000] × 90 days = 24).
The AR team at ABC Org calculates their ADD, which comes out to be 36 days (60 – 24 = 36), using their DSO and BPDSO for the time. This indicates that the average late payment from their clients is thirty-six days past due.
Accounts Receivable (AR) automation tools like Inebura that track Average Days Delinquent (ADD) metric apart from a host of other metric can provide several benefits:
BENEFITS OF AR AUTOMATION TOOLS
1. Enhanced Cash Flow Management:
- Realtime Insights: Automated tools provide real-time visibility into receivables, helping you understand the cash flow situation better.
- Quick Actions: Immediate insights into ADD can prompt quicker actions to address delinquencies.
2. Improved Decision-making:
- Data Driven Decisions: Accurate and timely data on ADD allows for informed decision-making regarding credit policies, customer terms, and collection strategies.
- Trend Analysis: Identify patterns and trends in payment behaviour, helping in forecasting and planning.
3. Efficient Collections Process:
- Automated Reminders: Automated tools can send payment reminders to customers based on ADD, improving the likelihood of timely payments.
- Prioritization: Focus efforts on accounts that are significantly delinquent, optimizing the collection process.
4. Reduction in Delinquencies:
- Proactive Management: By regularly monitoring ADD, businesses can take proactive measures to prevent accounts from becoming excessively delinquent.
- Customer Engagement: Automated communications can keep customers informed and engaged, reducing the risk of overdue payments.
5. Increased Accuracy and Reduced Errors:
- Elimination of Manual Processes: Automation minimizes the risk of human error in calculating and tracking ADD.
- Consistent Monitoring: Automated tools ensure consistent and accurate monitoring of receivables and delinquencies.
6. Enhanced Reporting and Analysis:
- Comprehensive Reports: Generate detailed reports on ADD and other key metrics, providing insights into the overall health of accounts receivable.
- Customizable Dashboards: Visualize ADD and other receivable metrics through customizable dashboards for better analysis and reporting.
7. Better Customer Relationships:
- Transparent Communication: Automated tools can keep customers informed about their account status, fostering trust and transparency.
- Flexible Payment Options: Offer customers various payment options and terms based on their payment history and ADD metrics.
8. Improved Compliance and Audit Readiness:
- Audit Trail: Maintain a clear and comprehensive audit trail of all receivable transactions and communications.
- Regulatory Compliance: Ensure compliance with financial regulations and standards through accurate and timely reporting.
9. Optimized Working Capital:
- Reduced DSO (Days Sales Outstanding): By managing ADD effectively, businesses can reduce DSO, leading to better working capital management.
- Financial Stability: Improved cash flow and reduced delinquencies contribute to overall financial stability and growth.
In today’s technology driven world , Accounts Receivable Automation solutions, such as Inebura, have evolved to help businesses track data just at the click of a mouse and take informed decisions and also help in identifying red flags whenever the values are much higher than the defined threshold and thus help in mitigating loss.
To know more on how Inebura can help, write to sandeep@inebura.com