The days of “cash is king” are over. When it comes to purchasing power, credit lines are essential for a business to have and to offer. But with credit comes the challenges of ensuring payments are collected on time and that cash flow continues to move effectively.
Days sales outstanding, or DSO for short, is how companies measure the time between credit payments and when they actually receive the funds they’re owed. A low DSO can free up valuable funds sooner that you can reinvest in your brand by enhancing your products and services and marketing them to an even larger audience.
Why Does DSO Matter?
DSO is a good metric for companies to see how liquid their business is and how their clients as a whole pay their dues. When a brand has a high DSO, they have lots of revenue in flux — they’ve already rendered their services, but they may end up waiting weeks or even months before they get the money they’re owed. A low DSO means they’re getting their money sooner and able to use it for other purposes, like buying more materials and meeting payroll.
DSO can also be an indicator of client satisfaction. The longer your clients have to wait to resolve this financial concern, the more likely they are to have a lower opinion of your service. It is notable to mention that cash sales do not factor into DSO, as the DSO for them is 0. DSO applies exclusively to credit and after-purchase payments.
Calculating Your DSO
Thankfully, as with many accounting metrics, there’s a formula you can use to determine DSO:
[ \text{(Average accounts receivable / net revenue) x days in evaluation period = DSO} ]
So, how do you gather this information? The days in your evaluation period is the easiest number to find. If you’re measuring yearly DSO, it’s 365. Quarterly evaluations should use 90. For monthly checks, make sure you’re using the number of days in the month in question.
Finding your average accounts receivable and net revenue may require a bit of math on their own. Your average accounts receivable is the amount at the beginning of the period added to the amount at the end of the same period. Divide that number by two to get your value. Your net revenue is your gross revenue minus any returns and discounts.
As an example, let’s say your business loans car fleets out to other brands. You want to know the DSO for the last quarter. Your average accounts receivable comes out to 10,000, and your net revenue is 100,000. The DSO formula will look something like this:
(10,000 / 100,000) x 90 = DSO
In this case, you would find a DSO of nine days.
What is a Good DSO?
The simplified example above claims a nine-day DSO. Is that an accurate representation of where your DSO should be? DSO can vary by industry and even by the nature of the products in question. In general, though, most businesses consider an acceptable DSO to be around 45 days. Anything under 30 days speaks to an extremely efficient collections team, while anything above 60-90 days may need some extra consideration.
Why is My DSO High?
There are plenty of reasons as to why your DSO is high or increasing. Maybe you’re going through a boom in business and your A/R team is trying to adjust. Perhaps you need more staff to handle the day-to-day collection processes. Or maybe your existing process hasn’t been streamlined to stay as efficient as possible.
The higher your DSO is, the less revenue you have to reinvest in your brand. An increasing DSO can mean a tighter budget and, at worst, a lack of funds to take care of business. If you notice upward trends, it’s time to start examining what’s going on and how you can fix it.
Why is My DSO Low?
A low DSO is not a problem! In fact, it speaks to the strength of your A/R team and everyone involved in sales collections. Congratulate your staff on a job well done and continue encouraging them to stay efficient and keep your cash flow moving.
Strategies for Improving Your DSO
No one wants to be involved in a long-ended payment process. It’s added stress for your clients and a financial challenge for you. While you can’t make your clients pay you sooner, there are some steps you can take to keep everything running smoothly on your side:
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Tracking DSO Regularly: You can’t do anything to fix your DSO without first knowing where you stand. Your DSO is not a stagnant number — it may change with the seasons or evolve as your brand goes. Plus, a sudden uptick or decrease can indicate something changing in your accounts receivable processes.
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Using a CRM: Customer relationship management (CRM) solutions are an excellent way to track your clients, their purchases, and their payments. CRMs can help you take a step back and see all your accounts receivable at once so you can better determine where your DSO concerns are coming from.
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Identifying Notable Clients: Some clients just don’t want to pay on time. Repeat offenders can hit your DSO the hardest, and it can be challenging to confront them about it, especially if they’re high-value clients. However, when they’re consistently affecting your finances, it may be time to place limitations on their accounts or part ways with them entirely.
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Nurturing Client Relationships: When your clients care about you as you do them, you’ll have a much stronger relationship and a better chance of collecting payments on time. Your A/R staff should be well-versed in customer service and have techniques they can follow to enhance consumer relationships.
Drive Your Revenue
Now, you can make your DSO into an undeniable asset for your brand. With minimal payment periods and consistent cash flow, you can turn your interests where they belong — in finding new ways to boost your bottom line.