DSO provides an indication of how much of your company’s cash is being used to finance customer accounts receivable. It can tell you if you are headed into a cash trap, where too much of the cash you need to operate and invest in your company is tied up in customer AR. DSO is one of the key metrics used to evaluate the quality of AR and collection efficiency.
Like any other metric you use as a KPI, DSO needs a benchmark to be measured against in order to evaluate and understand the results. Benchmarking DSO can be very tricky. DSO results can be skewed sharply by large swings in sales. This makes the period you choose for your company’s benchmark very important.
Here are some ideas on how to benchmark your company’s DSO.
Industry associations, credit rating companies and other sources publish information which may help you to select the right benchmark. For example, Dun and Bradstreet publishes a quarterly report, “U.S. Accounts Receivable and Days Sales Outstanding Industry Report”, which is compiled by industry SIC code.
Industries associations which collect financial information on a confidential basis and report industry averages of key metrics can be a useful source for benchmark data, which may more closely fit your company’s profile.
Terms of Sale
One of the benchmarks you should always keep in mind is your company’s terms of sale. If your DSO results are frequently different from your terms by a wide margin, it may indicate collection problems or non-competitive terms.
It is always useful to know the terms of sale of your direct competitors, to check your company’s competitiveness and validate that the DSO benchmark you choose is realistic.
Periods of Time
Picking the right period(s) to benchmark determines whether the result you measure is representative for your company. You can choose any number of period(s) such as:
- Rolling quarters or 12 months
The results for the period(s) you choose should be compared to the appropriate benchmark and prior year-over-year period.
Sales Volume Impacts
Be sure that the benchmark(s) you choose take into consideration seasonal sales patterns and unusually large swings in sales. If you want to include these aberrations, make sure that the benchmark(s) reflect them.
Evaluate Benchmark(s) Regularly
If you miss your benchmark(s) regularly, check if the problem is due to:
- Inefficient Collections
- Changes in business conditions in general and for specific large customers
Adjust your benchmark(s) as needed.
No matter what benchmark(s) you choose, remember that DSO has limitations. DSO should always be evaluated along with other metrics such as Percentage of AR Past Due and Days Past Due to properly evaluate AR quality and collection efficiency.
Monitoring and controlling DSO is essential to avoid cash traps and reduce the costs of financing and collections. Automated accounts receivable and collections make it possible for your AR team to achieve these results.
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 to 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.