Enhancing credit department performance with comprehensive KPIs

Days Sales Outstanding (DSO) is the most frequently reviewed key performance indicator (KPI) by upper management, representing the average number of days it takes a company to convert its accounts receivable (AR) into cash.

Why it matters: While senior management continues to rely upon DSO as a performance metric, credit professionals understand its shortcomings and have found ways to couple it with other KPIs to paint a more accurate picture of their department’s performance.

Working with DSO 

Depending on the company, DSO is typically used to provide the average AR performance of a 90-day period. While it can give you a glimpse into a company’s overall performance, it overlooks seasonal fluctuations and macroeconomic factors that significantly impact how long it takes to convert AR to cash. By targeting specific KPIs alongside DSO, credit managers can narrow the analysis and identify outliers to provide a more precise assessment of their department’s performance. 

Prior Month Past-Due Collected 

First on the list of KPIs used to measure a credit department’s performance is Past-Due Collected, or rather, Prior Month Past-Due Collected, which shows the percentage of past-due accounts receivable for the prior month that has been collected in the current month. This is important because the longer accounts receivable age, the less likely they will be paid in full.

First on the list of KPIs used to measure a credit department’s performance is Past-Due Collected or rather, Prior Month Past-Due Collected, which shows the percentage of past due accounts receivable for the prior month that has been collected in the current month. This is important because the longer accounts receivable age the less likely they will be paid in full.

Average Days Delinquent 

Average Days Delinquent is frequently used by credit professionals to measure departmental performance because it assesses the health of your collections process and your ability to convert AR to cash. It tells you the average number of days invoices are past due.   

To calculate the ADD, you must first:  

• Calculate your average DSO = (Average AR/Billed Revenue) x Days 
• Determine your Best Possible DSO (BPDSO) = (Current AR/Billed Revenue) x Days  
• Calculate this information using the ADD formula = DSO – Best Possible DSO 

What’s advantageous about this metric is that the best possible DSO separates out the current portion. “By using the best possible DSO to make this distinction, you can simplify the analysis down to something more understandable—like the average days delinquent,” said NACM Nashville member, Scott Chase, CCE, CICP, global director of credit at Gibson Brands Inc. (Nashville, TN). “This helps bring clarity and insight into what’s truly happening with the liability, allowing you to focus on the more actionable details, sometimes even reducing them to single or double-digit figures. Keeping in mind the past due percentage is critical to reviewing against DSO and ADD.” 

Cash Collections 

Cash collections are the process of collecting debts owed to your company. Some credit professionals measure the performance of their credit department by cash collected as percent available to collect for the month. It is calculated by dividing the amount collected within the month by the amount available to collect (current receivables + past dues – deductions), which is multiplied by 100.  

Credit professionals can measure their department’s performance by monitoring the Current Aging Bucket percentage, which represents the total value of accounts receivable that is within their agreed payment terms. For example, if the current percentage in a portfolio is 92%, the remaining 8% balance falls either within the 1-30-, 31-60-, 61-90- or 90+ day or more bucket. “The key is ensuring that the percent past due is mostly in the 1-30-day range because the older the balance, the more challenging it is to collect,” said Yazmin Miller, CBF, CCRA, CICP, corporate credit manager at Feralloy Corporation (Chicago, IL). “This helps me track how well the team is handling overdue accounts before they age.”  

Moreover, Miller uses her own scorecard to track the performance of the last 12 months for the collector, division and company, accounting for seasonality. If DSO increases but the percentage of current accounts remains steady, it’s likely due to sales fluctuations, not collection performance. “In months like January and February, when sales are higher, DSO will increase,” Miller said. 

The bottom line: While DSO offers valuable insights, it is essential for credit departments to incorporate other KPIs for a more accurate and comprehensive view of performance. By using a combination of metrics, credit managers can better anticipate challenges and keep upper management informed of the department’s true effectiveness. “Anticipating what factors impact DSO, whether it be a natural disaster or geopolitical issue, can help you plan ahead and communicate effectively with your team and executives,” said Darrell Horton, ICCE, former NACM National Chair. “Once upper management understands how other factors affect DSO, they will be more open to using more metrics.” 

Learn more about DSO at NACM’s upcoming Credit Congress in Cleveland during the session, DSO: Friend or Foe. Click here to register!