5 Easy Ways to Reduce your DSO
Effective management of accounts receivable is crucial for the financial stability of any business. One key metric used to assess this is the Days Sales Outstanding, which indicates how well a company performs. High DSO values can lead to cash flow problems and unpaid debts, resulting in limited liquidity for growth and investment.
All businesses must find how to effectively manage accounts receivable (AR) to stay financially viable. Days sales outstanding (DSO) is a metric used to help companies gauge how well they're doing. When DSO is too high, businesses struggle with poor cash flow and unpaid debt, meaning less liquidity for expansion and investment.
Companies can easily manage and reduce DSO with the wide range of tools available. This makes them more agile and poised to take advantage of future opportunities.
But it's essential to realize that people and processes must grow with technology to create sustainable change – especially in an area like AR.
How to calculate DSO
- Select a reporting period. It can be monthly, quarterly, or annually.
- Divide your AR balance for that reporting period by your total credit sales.
- Multiply that total by the number of days in the reporting period.
- The final figure is your DSO.
According to CFO Magazine, the most efficient companies report a DSO of 30 days or less. Businesses with long DSOs reported figures under 50 days, averaging around 36 days. If you're above this average, it may be time to reduce your DSO to improve your cash flow.
Before starting a DSO reduction, consider your industry's average DSO and other factors affecting it.
An article by Inc. Magazine highlighted ten industries where DSO was well above the median:
- Management consulting had a DSO of more than 125 days
- Oil and gas companies and technical and trade schools had average DSOs of 110 days.
In these cases, there's a need to adjust the DSO reduction goals to more industry-standard comparable levels.
Some industries experience seasonal DSO changes, affecting shorter reporting period metrics. In this situation, comparing year-over-year indicators is more precise than monthly metrics. If this applies to your organization, measure DSO over a more extended reporting period to get a more accurate number.
Finally, offering lenient terms to major clients can also affect your DSO calculations. Consider subdividing your data before setting goals to meet your objectives.
How to Start Reducing Your DSO
Before working to reduce your DSO, you must understand your industry's and competition's current DSO levels and any unusual client agreements. Setting these benchmarks will give you common ground and determine if your efforts are successful.
Understanding where your company stands and what it's trying to achieve in reducing DSO will keep everyone focused on the final goal. This ensures you receive the support and resources you need to follow through with one or more of these ideas and initiatives.
Here are five easy ways to help you reduce your DSO:
Method #1: Incorporate More Automation
Although many organizations use software to manage their finances, much of the AR process is still paper-based and labor-intensive. It would be best to incorporate automation into operational processes to reduce DSO.
Still relying on spreadsheets and software requiring manual input is error-prone and has long lag times. Reconciliation processes requiring tracking information and mistakes distract staff from managing disputes or improving customer experience communication.
A cloud and blockchain-based payment solution like Paystand can cut repetitive processes and quickly scale to manage a growing invoice volume. Automation means invoices are sent to customers immediately, and digital payments are collected instantly with just a button.
Method #2: Expand Payment Options and Links
Sometimes customers are looking for any excuse to avoid paying a bill. One thing to ease this is to reduce the possible reasons by expanding the payment options you can accept. If you accept multiple methods, customers will be more likely to find an option that matches their preferences.
Also, introducing digital flexibility, ease, and speed can help customers shift to paying how they prefer to receive money. For example, the Paystand Bank Network is a partnership with more than 18,000 banks that offers zero-fee payment options.
Consider offering a free, bank-to-bank transfer option alongside credit card options that carry a convenience fee. This helps cover transaction costs and shift to payment options that will help reduce DSO further.
Ease of payment can be a significant factor in reducing DSO. Consider all the steps in an antiquated AR process:
- Customers receive paper bills
- They find their payment method and
- Write a check
- Or fill in a credit card number
- They mail their payment
- You receive the check or credit card numbers
- Checks are cashed
- Credit card numbers are manually entered before cash is available
Each of these steps can cause delays or errors.
When you automate your AR process, you can send digital invoices with an embedded "pay now" button. Payments are completed in one click if account numbers are saved. The same payment link can be embedded in every customer communication if reminders are needed. This makes it as convenient and easy as possible to expedite the care of the invoice. Automated reminders, emails, and transactions mean funds are immediately transferred and available, keeping your DSO as low as possible.
Method #3: Be Creative With Payment Terms
Although offering 30-60 day payment terms to customers in many industries is generally accepted, there's no reason you can't incentivize earlier payments. Customers are accustomed to paying late fees if they remit invoices outside agreed-upon payment terms.
Fast payments benefit your organization. It's reasonable to share their advantages with early-paying customers. Consider offering discounts for quick payments or rewarding those who consistently pay earlier with special rewards.
Be sure to communicate your payment terms upfront and explain the early-payment benefits and the late payment penalties to shape customer behavior.
Method #4: Use AI to Personalize Collections
Artificial intelligence (AI) and machine learning (ML) technologies provide data wealth to help you personalize collections processes. For example, AI and ML can analyze a customer's risk profile based on past behavior, payment history, communications preferences, and more.
This information can create more effective outreach based on payment terms, receivables, and particular categories. Automating the collection process in this way allows you to be more diligent about collecting past-due accounts with less effort, which leads to lower DSO.
Method #5: Prune High-Risk Customers
The bottom line is customers who routinely fail to pay their bills are not good.
Track customers who regularly pay late or not at all, especially clients who are unresponsive to communication efforts, and stop doing business with them. This means potential lost income in the short run, but your organization will save hours trying to manage those accounts and collect payments.
That time can be better spent working with customers with short-term payment issues, improving customer service for your best customers, or acquiring new customers who are more diligent about paying invoices on time.
Implementing one or more of these initiatives to reduce DSO requires continuous training, education, measurement, and recognition to keep your company focused on sustained change. It's too easy in a department like AR to return to comfortable, familiar ways of processing invoices and dealing with late-paying customers.
Organizations must find ways to incentivize and reward their financial staff for implementing more efficient ways to reduce DSO permanently and sustainably.
Ready to Learn More About How Paystand Can Help You Reduce DSO?
Contact us today if you want to learn more about how Paystand's solution can help you reduce DSO. Our software enables payment management, optimization, and automation, providing all the tools to help you get paid faster. Book a free demo today!