DSO (Days Sales Outstanding) is a measure of how long it takes for a company or business to collect payments. Learning to minimize it can help the company run more profitably.
How does DSO work?
DSO in simple terms is the average number of days it takes for customers to pay for goods or services. In more technical language, it is the current AR (accounts receivable) balance divided by credit sales per day in the required time period. The larger DSO, the longer it takes on average for the business to receive payments from the company.
Why reduce DSO?
Reducing DSO means that payments arrive earlier, more punctually. This is a good thing for any business as it means that cash flow is smooth and timely. This also avoids the risk of the business running on losses.
Strategies to reduce DSO
DSO can be reduced by several proactive strategies, listed here.
1. Efficient billing and invoicing in DSO
By making the bills and invoices on time, one can prevent delays on the company’s end. Further, by making sure the details are correct and sent to the correct customer, one avoids the risk of redoing the process all over again. This also improves traceability.
2. Clear payment terms
Clear payment terms reduce the chances of customer confusion. As a result, customers are likelier to pay up on time, without having to go through clarification.
3. Multiple payment options
Having multiple payment options makes the process more accessible to customers. Customers may find it easier to pay on time, or close to time, when their preferred payment pathway is available. This is related to the previous strategy of clear payment terms.
4. Reminders
Timely, effective reminders can keep the customers on their toes and ready to pay on time. It also enforces a culture of diligence and proactive behavior which can help the business in the long run too.
5. Incentivise early payment and penalize late payment
A business can increase the likelihood of early payment by providing customers early payment discounts. Similarly, late payments can be dissuaded by penalties. Of course, this has to balanced in the greater scheme of things, such as conductive customer relations. Penalties and incentives should not adversely affect the customer base.
6. Study the customers’ credit histories
Customers with a credit risk that is acceptable to the business are preferred. Due research into potential customers’ credit history can help choose them well. It also helps estimate new DSO for the future and thus plan accordingly.
7. Pruning your customer base
It helps for a business to clear regular defaulters from its customer base. In the long run, regular defaulters can be a large drain on resources and the business has to consider the hard but preferred choice of no longer serving them. Such a choice has to be made with the best interests of the business at heart.
Final words
Proper handling of DSO is vital to running a business effectively. It must be noted that any measures to reduce DSO must be realistic and done with cost-benefit analysis. This means factoring the risk of facing unexpected side effects of reducing DSO, such as a smaller customer base.