receivable is where the greatest untapped opportunity for innovation in optimizing working capital lies. Accounts receivable is often the largest entry on a balance sheet, but has traditionally been approached as more of an administrative concern. Unlocking the value of this entry can directly improve a firm’s profitability by reducing the financial risks posed by write-offs and late payment whilst at the same time enhancing the relationship with the customer.
Improvements in accounts receivable can be achieved via a number of methods, including understanding and analyzing customer behavioral information using qualitative analysis, segmenting the customer base according to customized KPIs, and detailed reporting around disputes and their resolution. By risk rating customers according to these factors companies can define tailored collections strategies to better manage risk and ultimately improve the customer relationship. Moreover, combining multiple sources of external and internal credit and behavioral information not only helps with accurate cash-flow forecasts, but enables businesses to predict the potential bad debtor of tomorrow.
Another key initiative to strengthen relationships is having a common sense approach to T&Cs. Agree them at the start to avoid difficulties down the line, but be prepared to be flexible if needs be, particularly if the customer is one you want to keep a long term relationship.
A debtor is still a customer, always, and there is no harm in doing business with a customer that is high risk, provided that risk is understood and managed effectively. Companies that look internally to raise cash by identifying, monitoring and taking action on risk, providing transparency and accountability, will reduce write-offs and improve profitability and stakeholder value. In addition, reducing the level of counterparty credit risk will enable a business to negotiate more favorable terms when looking to refinance.
There are also simple steps that can be taken to make accounts receivable processes more sustainable. For example, invoicing accuracy is an area in which significant improvements can be achieved fairly easily. Best-in-class performance would be an error rate of two per cent or below but currently, many firms are approaching error rates of 10 per cent or more. Simple but effective steps to improve
billing quality include obtaining the purchase order number prior to the supply of the goods or service and ensuring the correct permutation of the customer’s name is used on the invoice. This might seem obvious, but it is surprising just how many times experienced businesses get it wrong.
Cash is king
At a time when there is much greater scrutiny of a company’s working capital, transparency is key. Banks may still be happy to lend to a well managed and growing business, but they are not prepared to lend money simply to plug holes in a firm’s balance sheet.
The area of working capital most likely to yield reward both today and for the long term is accounts receivable. If elevated to a more strategic level, accounts receivable can provide not only increased and more predictable working capital, but also improved customer transparency throughout the company – from the collections department, through finance and account management, to the CFO and MD.
The result? Sustainably improved working capital and a better footing from which to approach lenders as required. Organizations that adopt this approach will be the ones best-placed to capitalize on the nascent economic recovery.
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