Posts from April, 2010

Days Sales Outstanding (DSO) and Days Payables Outstanding (DPO) are important, widely used metrics to manage working capital.  Financial managers monitor these statistics very closely and regard them as key performance indicators as they work to maximize overall cash flow as well as transactional efficiency.   Through our audit work communicating with extremely large numbers of vendors for Fortune 1000 enterprises, we have begun delivering significant value to our clients based on a new metric that measures and standardizes an important aspect of accounts payables financial efficiency – Days Credits Outstanding (DCO).   

DCO focuses on open credits that are typically not visible to your internal accounting personnel.  Specifically, these credits are aging on your vendors’ and suppliers’ receivables ledgers and, for a variety of reasons, may be outside of your books, or at least not specifically identified with the vendor.  DCO measures the amount of time that outstanding credits are open and available on your vendors’ accounts receivable records before you are able to actualize them as cash to your bottom line.  Allowing your DCO to grow means your cash inflow is being delayed. Given the time value of money, this represents lost cash, even if eventually you do recover the credits.

While aged vendor-side credits are sometimes known to your company, more often they’re not; they’re essentially unseen or lost dollars.  In fact, based on over a million data points, Lavante research indicates that after an open credit has aged over 90 days, you have less than a 20% chance of recovering that credit without third party intervention.   These “lost” dollars add up and can grow to a staggering one and a half million dollars per every billion dollars spent.  Tracking DCO enables your company to bring the management of these dollars in line with your existing standards for managing working capital.

In addition to cash timing implications, it is also important to consider the financial exposure that increased attention to DCO can reveal about your company.  A growing DCO is an indicator of risk because there is a proven likelihood of vendors using unreturned credits to offset unearned discounts and disputed invoices, or otherwise disposing of them as they age beyond a reasonable period.  Ultimately, unclaimed credits that are not used by the vendor are escheated, that is, turned over to the state.  In all of these scenarios, you are losing the cash forever.  A focus on DCO will help bring visibility to the dollars outstanding while driving the age of these items as low as the aging scope cut-off of your audit will allow.

The introduction of DCO as a key performance indicator is significant because it adds a new measurable element to cash management.   It encapsulates the fact that not only is it important to actualize all open credits, but it is also important to realize these dollars in the fastest time frame possible, thus maximizing cash flow.  The cash flow implications of DCO are as relevant to cash management as preventing early payments, or even taking all of your discounts. 

Lavante, with our unique ability to comprehensively collect and analyze vendor-side AR records and thus uncover these “lost” credits, is calculating the DCO metric as part of our audits.  Our clients use it to help them manage their cash flow and as a key indicator of the transactional efficiency of their accounts payables process.