Don't Run Out Off Cash! Manage Your Accounts Receivable (A/R) Properly
There’s one absolute in business and that is this – all companies go out of business for some version of one thing: They run out of money.
Sure, maybe the owner got tired or ill, maybe a critical employee left, or maybe the company found itself in legal trouble, but at the end of the day, that company didn’t have enough cash to stay alive.
On the other end of the spectrum are companies that are still run out of cash, but don’t have any particular reason for that.
Every one of these examples could stay in business if they could more effectively manage their accounts receivable.
So just what is Accounts Receivable?
In short, Accounts Receivable (A/R) are monies owed to the company for products or services that have already been delivered. As an example, a restaurant may take delivery on $3,000 worth of food for that week’s business, but depending on the terms of the sale, they may not have to pay the invoice for 30, 60, or even 90 days.
In other words, these Receivables essentially represent a line of credit extended by a company and normally have terms that require payments due within a relatively short time period, ranging from a few days to a year (fiscal or calendar). The challenge arises when that credit period is overextended or, even worse, these debts are defaulted on. At the same time, improper tracking of A/R can lead to lost cash flow when it is needed most – when the credit debts the business has accumulated are due for payment.
Establishing Policies to Manage Accounts Receivable
One of the most critical things an business can do to ensure accounts receivables are managed correctly is to create and follow strict policies regarding any outstanding credits. Some examples of these are:
- Create a “Days Sales Outstanding” (DSO) Goal. The core premise of this is to limit how much time passes between delivery and payment. Remember, A/R directly impacts cashflow for the company, so even an “extra” 5 days added to the DSO can cause the company to run low on available cash.
- Establish a credit policy. Many times, the decision to extend credit to a client is seemingly random. In our experience, companies that experience cashflow and A/R troubles almost always do not have a clear credit policy in place. Such a policy should include clear guidelines on the credit-worthiness of the client, how long those credit terms will extend, and how much credit is given to the customer in question.
- Have a payment tracking system. The key to collecting payments is to communicate and follow up. Create a clear process for specific individuals to follow up on all credit customers at certain points in the payables process to ensure on-time payments.
- Charge interest on credit. While many companies have such a policy, most, in our experience, don’t follow through with the charges. This can be an important bargaining chip in getting past due amounts paid – forgiving the interest in lieu of payment in full today.
- Establish limits to the amount of credit extended and cut off clients that exceed those figures. Under no circumstances should a company ever extend too much credit OR continue to offer credit to non-paying customers. If left unmanaged, inevitably, the debt your company owns may have little value if your customers are bankrupt with thousands of dollars of your products.
- Qualify any new customers and do not extend liberal credit terms to new clients until they have a solid payment history. It’s easy to want to “bend the rules” to close a big deal, but if you do, be prepared to actively manage that account diligently until the business has established a reputation for using credit to your company’s standards.
There are many things to consider as you design you’re A/R terms, but one of the keys is to understand how fast your business needs cash. If you are using $3,000 per day, then even one week can quickly consume $20,000. Key things to consider are what is the product or service turnaround time of your own business and what constitutes an adequate supply of cash resources on hand. Each company is different, so taking the time with us to understand what that number needs to be will be a key component of your own A/R policies.
Entering the Information into QuickBooks
A huge challenge for companies that have lax credit and A/R policies is understanding what, exactly, is due from customers. Without proper bookkeeping, it can be virtually impossible to track what monies have been collected.
This can happen for several reasons: the company in question has a high volume of sales, they offer multiple methods of payment, and, of course, they don’t have clear policies on who – and how – to manage credit extended to customers.
The result is a massive challenge when it comes to managing accounts receivable because no one is properly matching deposits to accounts receivable and then to invoices. You can envision the mess, because the bank statement will only show a deposit but will not specify where the income came from.
As you can imagine, this can cause huge problems in cash flow management since there is no way to tell what the company's current cashflow actually is.
Just Do It!
Here’s a pro tip – the best time to clean up an accounts receivable mess was six months ago. The second-best time is right now. There is no “third best” option. To put it simply, not taking an active role in managing the A/R process is one of the biggest headaches for owners and managers trying to track down payments and get a clear understanding of the financial wellbeing of a business.
When you factor in multiple payment options, such as cash, checks, credit cards, terms of payments, and interest, and staged payments, it takes a special kind of person who would willingly want to fix a problem like that.
It’s tempting to decide to not fix the problem that day.
Don’t do that. If nothing else, reach out to us to discuss how you can fix the problem, because if you don’t solve it, you could lose everything. Let’s be honest, one of the hardest things that owners can ever do is to admit they need help.
We’ve built an entire business out of offering that help!
It’s easy to say, “Never put yourself in that position,” but over the years, we’ve seen many companies that have incredibly valid reasons.
It happens. We get it. Rapid growth, scaling, dissolution of partnerships, even changing software can all result in accounts receivable problems and mismanagement, but if you take the time to work with an expert to fix the problem and then adapt strict policies going forward for all A/R, there is no reason that your business should ever struggle with this challenge again. It should go without saying that our team is here for you!
By: Chris Groote
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