Monday, December 24, 2012

DSO The Myth

Most Credit Managers are judged, in large part, by the metric of Days Sales Outstanding, or DSO.  It's a convenient metric, easy to understand by most people .. or so it can seem.  The DSO is useful, but not by itself. First, in pure collections terms you want to understand how much of your AR is current or delinquent (and how late), you need to track your average payment terms, and you need to track documentation for accounts contacted - there's a great difference between an account working to clear its balance and one which won't answer calls or emails.  The trouble, for me at least, is that Credit Managers answer to Finance Directors and Sales-focused General Managers/VP's.  So, we tend to be told to 'keep it simple' and report our DSO month to month.

My company is growing, which is good.  But DSO's formula works out to a simple fact; if you collect more than your company ships in a month, AR goes down and so does DSO.  But if your company ships more than you collect, AR goes up and so does DSO.  If a collector is not bringing in money, then rising DSO can indicate poor performance, but if the DSO goes up in spite of solid collections because of large orders shipping at the end of the month, rising DSO can be misleading.

If a Credit Manager wants to avoid being judged by just one metric, be it DSO or another metric, he or she needs to make sure alternate metrics are established for performance reviews.  If you can show how other factors like Percentage of AR Beyond 60 Days, Collection Effectiveness Index (CEI), and Days Delinquent Sales Outstanding (DDSO), you can not only protect yourself against being judged by a single, volatile metric, and establish your department's reputation on a broader base of results.