The Credit Period, or number of days in your credit terms before payment is due such as Net 30 Days or 1% 10, Net 30 Days, is often not given the consideration that it merits. The Credit Period you choose is a key factor which determines DSO and the amount of customer accounts receivable that your company will end up financing. Accordingly, careful consideration should be given to selecting an appropriate Credit Period.
Here are some factors to consider in deciding what Credit Period you should use.
Industry Practice
Industry practice should always be considered in determining the appropriate Credit Period. If you are just starting up or new to an industry, there are several possible sources for information on industry practice.
- Industry associations – Associations are often a good source for operational and financial metrics.
- Credit associations – Credit groups are a good source for terms used by industry.
- Published information – Check information published by government agencies, financial institutions, etc.
In some industries credit practices are rigid or tied to laws or regulations. Make sure you understand how the industry operates before deciding on Credit Terms.
Competition
You may have to extend a longer Credit Period than your company’s finances would indicate are prudent to meet competition. This can be particularly important in highly competitive seasonal goods where extended terms are common. It is a lot less costly and difficult to finance a longer Credit Period than replace lost customers.
Try to find a happy medium where the Credit Period balances DSO against the risk of lost sales.
Financial Resources
Know your company’s ability to finance customer AR. If you don’t have the resources to meet competitive terms with long Credit Periods, you may be forced to consider expensive financing alternatives such as invoice factoring or take a pass on the business.
Cash Trap
Longer Credit Periods lead to more DSO. If you offer a longer Credit Period, it may lead you into a cash trap. DSO sucks up the cash your company needs for inventory, operating expenses and investments to grow.
Once you get into a cash trap it can be very difficult to get out. Manual collections and accounts receivable can bottlenecks your AR team’s ability to make contact with all past due accounts frustrating efforts to reduce DSO.
Choosing the appropriate Credit Period is an important element in controlling DSO. The comprehensive solution to controlling and reducing DSO, however, requires the technology available in automated accounts receivable and collections. Automation will give your AR team the resources to stay ahead of the curve on DSO.
The key to successfully automating accounts receivable and collections is to work with an experienced software partner.
Lockstep Collect is a market leader in cloud-based credit and collection platforms. Lockstep Collect can help you implement the technology applications you need to reduce and control DSO.
If you would like to learn more about how you can benefit from automating collections and accounts receivable, please contact Lockstep Collect at www.lockstep.io.
