The Order-to-Cash Cycle: A Guide for Mid Market Businesses

The Order-to-Cash Cycle: A Guide for Mid Market Businesses

What Order-to-Cash does for accounting systems

The Order-to-Cash cycle, also commonly known as O2C, is an essential part of your business’ operations that helps you accept and complete orders. The process manages your business’ order processing and accounting system from start to finish. Though it may seem like the O2C cycle ends when an order is completed, several important steps follow it. O2C not only records significant payment details, but it also helps identify ways to optimise the process further.

It covers several functions that handle your accounting systems with ease and accuracy.

The value of optimizing the O2C cycle

The O2C cycle impacts many areas of a business, making its features beneficial to companies of all sizes. From sales analysis to streamlining a company’s B2B payments process, this cycle encompasses a variety of benefits that help manage:

  • Customer relationships
  • Cash flow
  • Order fulfillment timescales
  • Credit replenishment/sales potential
  • Working capital costs
  • Business health insights

The seven steps of O2C

  1. Credit approval
  2. Order acceptance
  3. Order fulfillment
  4. Customer invoicing
  5. Payment process
  6. Cash application
  7. Collections

Step 1: Credit approval

B2B payments involve the purchase of goods and services through credit. This process usually requires the business to approve the supplier’ credit application. Approval for credit requests and credit limits for each customer are also taken into consideration when determining how much credit to lend a customer. In order to make sound decisions about extending credit, credit management professionals need to rely on accurate customer credit reports, also known as trade reports.

The credit approval step also reviews the financial situation of the supplier. It takes into account various essential details ranging from their cash flow to outstanding receivables. Once this is done, a set limit on customer credit is placed.

Credit approval professionals work together with the sales team to set the payment terms of the order. These terms include due dates for payments, early payment discounts, and penalties for late payments.

In addition, the credit professional also takes care of minimizing risk while maximizing sales volumes. Being a high-stakes discipline, they also face the consequence of incurring losses and cash flow problems by extending credit improperly.

Step 2: Order acceptance

Sales teams connect with customers to share information on the services they offer. Based on customer interest, sales professionals negotiate with customers on the order’s price, quality, delivery, and payment terms.

Making sure the suppliers are able to meet the terms of the order is part of the order acceptance process.

Step 3: Order fulfillment

The step involves locating, preparing, and shipping the order. Making sure the date and location details of the shipment are accurate is of utmost importance during the fulfillment stage. Here’s where automation plays a essential role in streamlining the fulfillment process. Updating sales inventory counts on time is key to avoiding accepting new orders before the previous ones are finished..

If an unavailable item is accidentally purchased, the same needs to be recorded in real-time to avoid any future billing issues. Automating this process allows businesses to manage this step with ease and efficiency. Without involving manual assistance, automated services can easily fetch necessary order details and assure no bottlenecks in delivery occur.

Similarly, all services promised in the order are duly followed from end to end.

Step 4: Customer invoicing 

After the delivery is complete, accounts receivable professionals invoice the customer for the amount owed. The invoice is either shared physically or electronically, depending on the order. The use of electronic billing via email has become more popular recently, overtaking older systems of faxing and telephonic billing.

Generating and delivering invoices to customers is crucial and time-sensitive work. The sooner a customer receives and clears a payment, the sooner the business stabilises its cash flow.

Step 5: Payment process 

Customers clear payments in a variety of ways – from paper checks to virtual credit cards. Here, the supplier must decide which forms of payment they are willing to accept. The supplier then sets up processes to increase the efficiency of receiving payments through these select channels.

To prevent incurring high costs associated with each payment, businesses need to manage their customer payment preferences in a way that benefits both sides.

Step 6: Cash application 

After payments are received, the money is then allocated to specific accounts. This process acknowledges the receipt of cash and marks the invoice as paid. Though seemingly simple, this step is actually a little more complex than it appears

Since companies usually process a good number of payments every month, it’s crucial to have a system for categorizing them properly. That’s where cash application specialists come in- they match up these receipts with the correct invoices. Remittance advice helps with this process, as it often comes with certain types of payment.

Remittance can also be sent through email or telephone, but this only further complicates accounting systems and leads to inaccuracy. When particular payments are delayed or cover multiple invoices, additional complications can arise that require more sophisticated solutions to ensure accuracy

Clearing payments on time enables businesses to regain their cash flow for business operations and, in turn, replenishes credit limits for customers.

Step 7: Collections

When a payment is not received by the due date, the account becomes delinquent. At this stage, the account is transferred to the collections department.

In certain cases, customers intentionally delay clearing payments to better manage their cash flow or business credit scores. Collectors will get in touch with defaulting customers to understand and resolve their payment concerns to avoid any future issues.

Now that you understand the processes in the O2C cycle, let’s look at ways you can optimise it for your business.

Best practices in O2C 

If you are looking to improve your Order 2 Cash process, then you need to know how to do it the right way. Implementing cost-saving measures is one benefit of enhancing your O2C solutions, but there are many more advantages to be had. We’ve listed a few below.

A logical starting point for invoicing and payment acceptance 

Several value-added O2C strategies are applicable to the payment process. Some of which are intelligent invoice design and Electronic Invoice Presentment and Payment (EIPP). To roll out timely payments, customers need to understand how to use these invoices. Making use of integrated payment acceptance solutions helps speed up the invoicing process for both customers and suppliers.

Older methods like paper invoicing cannot be optimised efficiently due to the limitations of old school systems, however the good news is that most businesses are on electronic invoicing. Similarly, modern invoicing systems require multiple steps for delivery and payment, which can be time-consuming. Electronic invoicing significantly eliminates the delivery time and helps speed up cash flow between the customer and company.

Automation of cash application or payment reconciliation

The O2C cycle is not complete until the cash due is properly allocated to a specific record system. For a business to receive money through these payments, there needs to be an automatic application of cash. Any delays in cash allocation result in a high days sales outstanding (DSO) and a low business credit score. DSO occurs when companies do not receive a payment well past their invoice due date.

As customers clear payments in a variety of ways, cash application becomes all the more complex. Certain payment methods involve manual keying, which can be time-consuming and less efficient than electronic payment options. In some cases, even electronic payments can become disconnected from their respective invoice, requiring additional time and resources to find a match. Trying to handle all of this without accounts receivables automation can be difficult.

Although a 100% match rate is the goal, realistically there will always be some exceptions. Automating the cash application process not only cuts costs but also reduces the average days sales outstanding (DSO). With the help of technology, sellers can automatically transact data from any source and match it with open receivables. Whether customers clear payments by cheque or electronic methods, using automation improves overall hit rates and minimises transaction time.

Implementing such tools helps businesses work through exceptions and can help post payments on time. Being resource-friendly, it also helps get the job done without depending on manual intervention.

Increased brand loyalty through better customer experiences

O2C systems provide both customers and call center staff with secure access to research and print invoices and settlements. More advanced systems also let customers manage their own invoices with easily accessible web applications. Additionally, O2C enables businesses to free up their resources for other tasks, allowing them to focus on customer experience and other key operations.

O2C systems also help identify possible areas that could use further optimization to boost customer experience. Knowing which areas to improve for customers helps a business deliver great experiences, which develops brand loyalty and business growth.

Conclusion

The Order-to-Cash process can offer your company untold strategic potential. The right approach can help improve your company’s cash flow and boost customer satisfaction. It also has the potential to help you achieve your goals for sustainable business practices, all while significantly reducing costs.

Selecting the most appropriate solutions for your company can be challenging and require some experimentation. However, it is important to consider the flexibility of these solutions when making your decision. You need a system that can adapt to your specific invoicing needs.Additionally, the ability of the system to manage both intelligent cash applications and electronic adoption is essential.

These key capabilities will help suppliers achieve the right balance between buyer satisfaction and low DSO.

Make Your Working Capital Work for You: Ways to Optimise Your Accounts Receivable

Make Your Working Capital Work for You: Ways to Optimise Your Accounts Receivable

Accounts receivables are one of the most important components of your working capital. Receivables refer to the money which you must receive from your debtors, i.e., the people you sell your products or services to. When you get your payments on time, your working capital remains in good health.

But many people struggle to take control of their receivables process. When this happens, increasing cashflow becomes difficult and it becomes challenging to run your business operations.

Here we explore what you can do to ensure your accounts receivables practices work well and you optimize your collections.

Step 1: Make accounts receivables a key metric in financial performance measurement

Many times, working capital takes a backseat when we’re measuring company profitability and financial health. Typically, the section which companies falter with is the accounts receivables. When you don’t keep an eye on your receivables, it becomes difficult to identify any existing problems with our receivables process.

But, when you make your accounts receivables a KPI, you strictly track your receivables and you get a better picture about who owes you what. You’ll be able to identify customer accounts that are draining your coffers and amend those processes that are harmful to your working capital health.

Step 2: Bring your departments together to ensure a collaborative collection effort

Accounts receivables management isn’t just the prerogative of your company’s accounts department.

The sales team, which deals with clients on-the-ground, plays a huge role in getting collections faster. Additionally, your finance teams – who control budget allocations – affect the company’s ability to offer extended credit periods and limits to customers.

When your sales, accounts and finance departments work together, you will have a bird’s eye view of your accounts receivable management processes. You will be able to determine the exact payment terms and credit limits to be offered to each customer, to ensure you’re always repaid and have the lowest default rate.

One process to initiate here is a comprehensive credit check to gain credit insights about current and prospective customers. This credit check will give you information about the purchase and repayment history of your customers, whether there were any defaults and the frequency of on-time payment vs default. This way, you’ll be able to plan how to reduce your default rates and ensure you receive your payments and your working capital is optimized.

Step 3: Use a robust Accounts Receivables Solution to collate bills of the same customer

It’s easy to miss out on a specific invoice when the same customer has a hundred different bills. This is where Accounts Receivables Solutions like accounting software, order management software and a master excel sheet can help. They give you the means to bring together data that is completely staggered in your system and make sense of the overall receivables each customer owes you.

When you have this collated information in a single place, there’s a lesser likelihood of your missing any bills that need to be followed up. Plus, this will help you identify any wrongdoing that any customer might be doing to cheat the system.

Step 4: Automate your receivables to ensure you always get paid on time

Finally, the best way to optimize your working capital and get your payments is by automating accounts receivables.

Manual receivables management can lead to a lot of errors. You may either claim lesser than what is owed to you or accidentally include wrong invoice details that can reduce your credibility in front of your customers.

But software like MYOB, XERO & Netsuite can help you manage your invoices carefully. These tools also take control of the payment follow-up process, ensuring you don’t need to do the heavy lifting. Contact our team at ezyCollect for more information.

Days Sales Outstanding (DSO) and how to halve it

Days Sales Outstanding (DSO) and how to halve it

DSO, or Days Sales Outstanding, is the average number of days it takes for a company to collect cash payment from a credit sale. When a company sells on credit, it allows its customers to pay in cash at a later date. The average time to pay for a given period is the days sales outstanding.

The Days Sales Outstanding impacts the cash flow. For example, suppose a company takes a long time to convert its accounts receivable to cash. In that case, it will have a negative effect on the cash flow. Businesses that are focused on cash flow will strive to reduce DSO. A lower DSO means cash returns to the business more quickly.

Key points

  • Days Sales Outstanding is standard accounts receivable term often referred to as DSO.
  • DSO is the average number of days for a business to convert a credit sale to cash in the bank.
  • The days sales outstanding formula is (Average Account Receivable / Total Credit Sales) x Number of days.
  • You can lower DSO to achieve better cash inflow with strict credit control and a disciplined accounts receivable process.

What is the DSO formula?

The days sales outstanding formula is easy to calculate. It’s a measure of how quickly cash was recovered from outstanding sales invoices. While sales revenue may be a combination of cash and credit sales, only credit sales (accounts receivable) are considered in the DSO formula. That’s because cash sales are not counted as outstanding. DSO is typically measured month by month.

DSO = (Average Account Receivable / Total Credit Sales) x Number of days

You can see that if a business retains a high proportion in accounts receivable at the end of one month, its DSO will be high. It has not converted its credit sales into cash quickly, and that money is not available to run the business.

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A days sales outstanding example

Here’s how we arrive at a DSO calculation of 40 days for ABC Wholesale Company:

  1. We decide to calculate the DSO for the month of June, which has 30 days.
  2. On 1 June there was $105,000 in accounts receivable.
  3. On 30 June there was $95,000,00 in accounts receivable.
  4. We calculate the average value in accounts receivable for June was $100,000 (the average of $105,000 and $95,000).
  5. In June, ABC Wholesale Company recorded $75,000 in total credit sales.
  6. DSO = (100,000 / 75,000) x 30 days = 40 days

ABC Wholesale Company takes 40 days on average to collect a credit sale. 

Even without the calculation, we can quickly understand that ABC Wholesale Company is accruing more debt in relation to its monthly credit sales.

Imagine ABC Wholesale Company’s cash position if it halved its DSO to 20 days?

How to halve days sales outstanding

To halve its calculation of DSO to 20 days, ABC Wholesale Company can affect change upon two variables in the formula. Most simply, it could:

  1. Halve the average accounts receivable, or
  2.  
  3. Double the total credit sales.

Let’s see what happens when the business halves its average accounts receivable by collecting twice as much:

DSO = (50,000 /75,000) x 30 days = 20 days

Or, ABC Wholesale Company could also halve its DSO if it doubled its credit sales:

DSO = (100,000/150,000) x 30 days = 20 days

It’s always great to double sales, but that doesn’t automatically equate to improving the accounts receivable department’s collection efficiency. And collecting payments more quickly is the ultimate goal of lowering DSO.

The good news is that halving accounts receivable is achievable with strict credit controls and a disciplined accounts receivable process.

What is a high DSO?

‘High’ and ‘low’ days sales outstanding ratios are best considered in a broader context:

  • Industry: Some industries are much slower to pay than others.
  •  
  • Trends: Seasonal businesses experience highs and lows in their collections and sales, so compare DSO over comparable periods to determine acceptable highs and lows.
  •  
  • Business size: A DSO of 60 days may be ‘good’ for a large business but crippling to cash flow for a small business.
  •  
  • DSO can mask a bigger picture. We cover more considerations in our blog post on accounts receivable turnover ratio.
  •  

Why does a low DSO matter?

DSO is one metric of a company’s liquidity: how much access it has to cash to operate day-to-day. Small to medium-sized businesses rely on cash to pay their people, re-stock, and upgrade their systems. Slashing the days sales outstanding means the cash conversion cycle is much faster. With a lower DSO, there is more cash returning to the business each month, and that cash is available to fund business operations.

Without good cash recovery, it is harder to fund the activities that support sales.

What’s more, investors and creditors want to know that a business effectively manages its debts. Cash flow is a critical indicator of a business’s health and financial outlook.

How to improve DSO

The amount of time it takes to receive payment from customers (days sales outstanding) is not only determined by numbers! A significant influence on payment times is the quality of your debtor communications and relationships.

It’s a fact we prove time and again at ezyCollect: debtor relationships matter!

You can improve (lower) your days sales outstanding by improving your service offer to debtors. Payment times improve once your accounts receivable process becomes easier for you and your debtors.

Here are five simple tips:

1. Predetermine the likelihood of each new debtor to pay on time BEFORE issuing them credit. This way, you are not exposing your business to known late payers and are instead extending credit to buyers who are likely to pay on schedule.

2. Digitize your invoicing and payment chasing. These are both necessary activities if you offer trade credit. So automate your accounts receivable tasks for efficiency and accuracy, and ensure those collection communications reach your customers on time, every time.

3. Use collection calls and SMS reminders to connect with debtors. When emails aren’t enough, you need to cut through the noise with a timely and effective collection call and an SMS payment reminder included in your communication workflow.

4. Offer your customers payment convenience. Pay later, pay with a credit card, pay online. This variety is what business customers want. If you’re not offering these payment methods, know that someone else is. Guess who gets paid first?

5. Show gratitude for paying. This simple act is so powerful and often underestimated. If you could be the company that say thanks to its customers–why wouldn’t you? You can even personalize and automate your thank you message to make sure you never miss an opportunity to reinforce positive payment behavior.

In summary:

An increasing DSO indicates that debtors are taking more time to pay their invoices. Prolonged and late payment times limit a company’s access to essential cash flow to survive and thrive. When DSO is reduced, and the cash conversion cycle speeds up, cashflow can improve.

A business can improve its credit risk management and collections efficiency to solve DSO issues.

ezyCollect is purpose-built to reduce Days Sales Outstanding