Unlocking Working Capital: Moving from Reactive to Proactive Collections Management
Working capital is the fuel that powers global business operations, but too often an unnecessarily high percentage of this fuel is continuously stuck in the pump: locked up in aging invoices and lengthy DSO (Days Sales Outstanding) cycles. Companies looking to improve cash flow have typically focused on reactive collections processes – seeking payment on aging invoices, and resolving underlying issues in the effort to collect. Because it’s difficult to go up-stream and systematically uncover and resolve the root causes of issues that drive delayed payments, most collections efforts deal with the symptoms, instead of addressing the real issues. Solving a problem after the fact, however, extracts its cost in time, effort, customer satisfaction and even employee morale. Meanwhile, corporate performance and shareholder value-added suffer.
However, my implementing process automation built around dispute prevention technologies, companies can unlock millions in working capital, eliminate revenue leakage and radically improvement overall customer satisfaction. This proactive approach requires the application of new best practices and software technologies early in the quote-to-cash cycle to deliver high returns. One major company recently slashed its average DSO by six days through such improvements, and in doing so, unlocked $26 million in working capital.
Forward thinking companies that have best in class financial performance share several technology-enabled attributes. The first and key one is the strategic focus on addressing the quality of their quote-to-cash cycle. In almost every case, upstream errors and exceptions drive invoice issues and disputes downstream, leading to higher DSO and considerable capital locked up on the balance sheet. In a typical Fortune 500 company, it’s not unusual for 18 to 35 percent of outgoing invoices to be inconsistent with customer expectations and fail the automated three-way AP reconciliation test. Defective invoices typically have three to four times the DSO of a clean invoice. Hence if 77 percent of the invoices are clean and paid in 34 days, and 23 percent are defective and aren’t paid for 79 days, the average DSO works out to 44, a full 10 days higher than the best possible DSO of 34.
Proactively neutralizing root causes generated upstream in the quote-to-cash cycle is the fastest and most effective way to reduce DSO and unlock working capital.
The second attribute common across the top performers relates to speed of problem resolution and efficiency across the collections and dispute resolution teams. Dispute resolution is characterized by laborious, mundane, and sometimes low-value-added tasks. Collections and customer service teams routinely spend considerable time manually retrieving, aggregating and summarizing large volumes of invoice-related information – digging for details on parts of the transaction that may have transpired several months earlier in other parts of the organization and collaborating with customers to resolve issues that require lengthy cross-organizational approval cycles. As a result, the average collections teams spend only 25 percent of their time actually collecting cash.
Best in class companies use technology to automate many manual, routine tasks, enabling their collections teams to focus on effective customer service and efficient collections strategies.
The third attribute is the availability of real-time visibility into global positions and more importantly, the sense of action-orientation that this enables. Actionable 360 degree views of operations can be hard to achieve without the right automation tools. Often, multiple disparate ERP systems cloud access to key information. Even consolidated, single ERP systems can have differing account hierarchies across geographies and business units. Hence it becomes almost impossible to get comprehensive, consistent views of what’s happening globally in real-time. As a result, despite best intentions, teams end up working in the dark – band-aiding symptoms and missing the solution to the root cause – only to find themselves fighting the same symptoms daily.
Leading companies have addressed this issue through the use of focused application tools that provide actionable 360 degree views in real-time. As a result, they are able to leverage objective root cause analysis results, real-time issue dispersion metrics, quote-to-cash sub-cycle measurements, and then click-through to any level of aggregation or detail on a transaction – to identify problem areas and act on them. This not only improves overall effectiveness and efficiency, but also helps drive improvements in Six Sigma and other process quality initiatives.
Finally, best of class companies have a firm focus on the quality of their customer service – from human to process interaction. In transaction processing, when upstream errors cascade downstream, invoices fail to meet customers’ three-way reconciliation tests for payment. As a result, these invoices are taken out of the processing queue to be manually re-worked. Clearing up this backlog creates extra unplanned, low value-added work for the customers’ Accounts Payable groups and impacts customer satisfaction. Increasingly, these can result in steep penalties and charge backs that result in bloated cost structures.
Leading companies focus on the quality of the transaction process, ensuring trade documents are consistent with customer expectations and making it easier to do business with them.
Best performers in working capital management have already charted the path to unlocking significant working capital. These include: systematically resolving up-stream drivers of late payments; automating the workflow and consistent strategy implementation in collections; enable comprehensive, consistent visibility in real-time to transaction information; reducing the customer workload and effort required to do business with you.
In most business-to-business relationships, late payments come from exceptions and errors that cause the invoice to fail the three-way AP reconciliation test. These errors can come from multiple causes – manual errors, data integration errors and the inability of existing hard-wired systems to deal with dynamic business rules in real-time. As a result, issues such as incorrect pricing, improperly applied discounts, change orders that don’t have reference information, blanket POs that exceed maximum permitted, incorrect warranty entitlements, invalid PO numbers and inconsistent freight rules, can all create an error or exception on the invoice. Improperly applied discounts are particularly nefarious as they can also result in revenue leakage, literally leaving dollars on the table that are legitimately due. Regardless of the cause, the key is in finding out about the error and fixing it not on day 45 or 50 of past due, but on day 0 or preferably as and when the upstream error happens; and in using the knowledge gained to head off future invoice quality issues by systematically fixing the root causes in the quote-to-cash cycle.
None of this can be done without the right technology. Application software available today can use algorithms-based reconciliation rules to proactively check every transaction for errors that can subsequently cause late payments, and alert users on exceptions that can now be resolved proactively. Users get a workbench of tools to systematically fix root causes and collaborate cross-organizationally to resolve disputes. Integrated information and holistic views available though this management dashboard provides both tactical and strategic value to the organization.
Tactically, holistic views of transactions provide collections and customer service teams with complete information at their fingertips to effectively assess and resolve issues. Instead of spending the bulk of their time hunting down and aggregating information, they now leverage real-time dashboard views, drill-down and click through to the actual trade documents.
Strategically, holistic views are essential to implementing a true cross-functional solution. Process issues don’t all originate in finance. Thus, it is critical to be able to identify areas for improvement and root causes across all parts of the organization to create a feedback loop for continuous process improvement – and to provide visibility cross-organizationally to the results.
Technology can now impact the quality of customer facing trade documents – more error-free invoices can now be processed without manual intervention from the AP team – increasing customer satisfaction, and eliminating additional costs from penalties.
The technology to accomplish all this exists today. And best performers in working capital management are already seeing tremendous returns.
One company that has embraced proactive working capital management is Honeywell, a $23 billion Fortune 100. Burdened with an unacceptable number of invoices failing customer AP reconciliation, one of Honeywell’s business groups experienced high DSOs in early 2003. The organization was also seeing significant revenue leakage due to improperly applied discounts and promotions not caught by existing ERP systems. Despite Honeywell’s well established Six Sigma methodologies, ERP and other IT tools in place, their DSO was still inflated, and the company looked to new and means to solve these issues.
They implemented a proactive working capital management solution that wraps around and leverages existing ERP and other legacy systems. The solution implements flexible business rules upstream in the cycle, provides global visibility into transactions and processes, and enables click through visibility into root-cases, resolution status, and all process metrics.
As a result, Honeywell is experiencing significant financial returns, new process efficiencies and improved customer satisfaction. The ability to auto-detect errors and exceptions early in the quote-to-cash cycle resulted in an immediate 90 percent decrease in problem invoices, leading to a 10-day reduction in corresponding days to pay. In addition, revenue leakage from improperly applied discounts has been largely eliminated, bringing more money to the bottom line. All this resulted in millions in annualized returns to the company.
These stronger business controls and enhanced visibility have also enabled considerable process and productivity improvements at Honeywell. For example, having all pertinent order information centralized and readily accessible has helped drive a three time improvement in resolving cross-organization issues. Enhanced visibility into customer service levels and individual customer payment trends enables Honeywell to take a global view into a worldwide customer or an entire industry and change its collections strategies – thereby better managing its risk exposure.
Honeywell’s proactive stance has also had a very positive effect of customer satisfaction – reducing the customers’ involvement in unnecessary, low-value-added work, and eliminating potential instances of penalties and charges for invoice quality issues.
Leading companies that have embraced a proactive approach to quote-to-cash quality exemplify several best practices for optimizing working capital management:
Generally available and rapidly deployable technologies, combined with best practices, provide high returns for companies through clear reductions in DSO. Unlocking excess working capital out of the balance sheet isn’t the only benefit. With analysts looking closely at competitive DSO as an indicator to help evaluate company performance, DSO can have a direct impact on market capitalization and shareholder satisfaction. With employees, customers and shareholders all much happier – this is an approach worth emulating.