Institute of Management Accountants Receivables Management: Cash, Profit, and Shareholder Value Las Vegas June 19, 2006

Institute of Management Accountants

Receivables Management: Cash, Profit, and Shareholder Value Las VegasJune 19, 2006

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© 2006 Parson Consulting All rights reserved Reference code

• Introduction

• Benefits of Excellence in Receivables Management

• Cost of Poor Management of Receivables

• Key Drivers of Excellence

• Conclusion

Agenda

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Did you know:

• Receivables are among the three largest assets of 75% of the Fortune 500?

• Receivables are a “free” quality measure of your customer service?

• Credit and collection are the most customer-centric activities in Finance?

Does your company or your client have a strategy for the receivables asset?

• Competitive advantage (financing)

• Necessary evil (minimize investment and cost)

• No strategy

Who authorizes increases in the receivables investment?

Introduction

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The benefits are many:

• Cash generation– repay debt, raise dividend, repurchase shares, invest in R&D, acquisitions

• Bad debt risk and expense reduction

• Concessions reduction – merit not age

• Administrative cost reduction throughout revenue cycle

• Customer service and satisfaction enhancement

• Revenue increases from:

• sales to weak customers with risk controlled and managed

• reducing administrative burden on sales force

Benefits of Excellence in Receivables Management

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Examples:

• Generated $66 million of cash from receivables for a $1 billion Mid-Atlantic medical device manufacturer, reducing DSO from 63 to 41.

• Decreased DSO from 72 to 38 for a $100 million Northeast software firm, generating $10 million of cash.

• Reduced DSO from 120 to 90 in three months for a $12 million New England disease management company. Client’s DSO is now in the 40’s. Total cash generated is $2.5 million.

• Reduced delinquency by 43% in three months for a $130 million East Coast medical equipment manufacturer, generating $5 million of cash.

• Reduced bad debt by $2 million by collecting 65% of over-one year-old maintenance receivables for an Eastern high tech firm.

• Recovered from bad debt over $300,000 of over-one-year-old receivables for a $12 million Southwestern home health care provider.

• Increased cash receipts for a West Coast orthotics manufacturer by $11 million in three months.

Benefits of Excellence in Receivables Management

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Medical Products DSO

40.0

45.0

50.0

55.0

60.0

65.0

Jan

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec Jan

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec Jan

Feb

Mar

Apr

May Jun

Jul

Day

s Sa

les

Out

stan

ding

20012000 2002

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Medical Products - Eligible Receivables Ratio

50

55

60

65

70

75

80

85

90

95

100

Dec-99

J an-00

Feb-00

Mar-00

Apr-00

May-00

J un-00

J ul-00

Aug-00

Sep-00

Oct-00

Nov-00

Dec-00

J an-01

Feb-01

Mar-01

Apr-01

May-01

J un-01

J ul-01

Aug-01

Sep-01

Oct-01

Nov-01

Dec-01

J an-02

Feb-02

Mar-02

Apr-02

May-02

J un-02

J ul-02

Company Internal Benchmark

Eligible Receivables Ratio = Eligible Receivables / Gross Receivables

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CRM Software Provider

56

50

60

40

47

23 23

20

0

10

20

30

40

50

60

Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4

DSO

DSO

2001 2002

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The costs can be hidden and devastating:

• Cash drain – increased investment in receivables asset for what return?

• Example: $2 billion manufacturer saw receivables increase $110 million in nine months with only modest revenue growth

• Bad debt expense – a dollar for dollar reduction of profit

• Example: a jet engine repair firm which dealt mainly with government, lost $1.1 million by failing to secure letter of credit from private sector customer in Egypt.

• Example: a large services company that had large, “blue chip” clients and no credit controls, lost millions when Kmart, US Airways, etc. filed bankruptcy.

• Example: a $3 billion distributor lost 33% or $16 million of an acquired firm’s receivables through poor integration execution.

Cost of Poor Management of Receivables

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Lab Supplies - Merger/acquisition integration case study

16

48

36

28

21

16

1210

7

30

25

50

I I+6 I+7 I+8 I+9 I+10 I+11 I+12 I+13 I+14

I = Integration

$ M

illio

n

Receivables > 150 days past due

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• Concessions – invalid disputes and deductions written off because of age, not merit. May be hidden in charges to bad debt reserve, discounts, returns, & allowances, or other expense category

• Example: $400 million distributor with a 6% gross margin, lost over $1 million annually from concessions.

• Example: $350 million food manufacturer lost over $2 million in invalid deductions from delay in challenging them.

• Administrative cost – excess staff cost to manage the asset

• Example: a $2 billion services firm employed 18% more staff than needed because of a lack of standards, metrics, and supervision.

• Example: a $1 billion medical products firm’s staff cost was 12% higher than required from having high cost collectors performing clerical work.

Cost of Poor Management of Receivables (cont.)

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• Customer service and satisfaction – your reputation as a quality supplier can be hurt by inaccurate invoices and statements of account, unprofessional customer contact, etc.

• Example: $400 million distributor lost a bid on a contract even though they had the lowest price. Reason: lack of administrative quality.

• Revenue – restrictive credit policy can constrain profitable sales to thinly capitalized customers. Excessive involvement of sales force in dispute resolution can divert time from selling.

• Cash and cost

• Example: $200 million apparel firm misapplied cash. Angry customers stopped paying until their accounts were corrected. Result: low cash receipts, high temp help expense for several months.

Cost of Poor Management of Receivables (cont.)

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There are many practices, tools, and techniques that are a part of effective and efficient receivables management. Among these are:

• credit risk evaluation and control

• technology

• proper metrics

• management support

These elements must be utilized and performed well every day over many months to achieve excellence.

However, the three major drivers of excellence in receivables management are:

• Accurate order fulfillment and invoicing

• A well defined portfolio strategy

• A formal dispute resolution process

Key Drivers of Excellence

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Accurate order fulfillment and invoicing

Delivering exactly the high quality product or service that the customer ordered, and billing it with an invoice that is accurate and meets customer requirements will:

• pre-empt disputes

• avoid providing a legitimate reason for delaying or shorting payment

• enhance your image as a total quality supplier

• improve productivity throughout the revenue cycle

Example: a Baldridge award winning manufacturer with a 2% Billing Quality Index enjoyed a DSO in the low to mid-thirties selling on Net 30 day terms.


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A well defined portfolio strategy

Just like a marketing strategy segments customer groups to customize the sales pitch, a portfolio strategy segments customers into groups which merit a customized collection approach. Common customer segments are:

• private vs. government sector

• domestic vs. export

• national account vs. smaller customer

• high margin vs. low margin

• low risk vs. high risk

The collection process and organization are tailored to the segment.


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A WELL DEFINED PORTFOLIO STRATEGY

Example: a medical products manufacturer had over 5000 customers. The Credit department treated all with the same approach. Large customers received inadequate attention, sacrificing cash flow. Many customers were rarely contacted because of the huge workload. DSO was 60% above Best Possible DSO.

Example: a manufacturer assigned collectors with the same skill sets to National Accounts and to small accounts. Higher cost staff who were skilled in collection contact spent much of their time reconciling accounts and resolving deductions of National Accounts (who normally paid within terms). Their collection skills and premium cost were wasted.


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A formal dispute resolution process

A dispute is any reason (other than cash constraints) for a customer to delay or short pay (aka, take a “deduction”) an invoice. Most disputes are administrative in nature (price, missing P.O. number, etc.). The key attributes of a formal dispute resolution process are:

• prompt identification of disputes

• routing to “best positioned” resolver

• clearly defined workflows for resolution and clearing

• tracking of every dispute until cleared

• proper metrics

• culture of customer satisfaction


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Dispute Management – Cycle Times

Illustration of Dispute Resolution Improvement

240

200

160

0

40

80

120

238

216

100

86

January March June September

Days from Inv. Date to Clearing

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Dispute Management – Cash flow ImprovementYear to Year Improvement

Illustration of Actual Client Performance - % Improvement

75

48

24

0 10 20 30 40 50 60 70 80 90 100

Aged Items

Over 90

Delinquency

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Dispute Management

Customer Satisfaction Questions

• Overall satisfaction with administrative support (+3 points)

• Quick and effective response (+3 points)

• Effective two way communication (+2 points)

• Accurate and timely invoices (+2 points)

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Dispute Management – Productivity Improvements

4340

3033

0

10

20

30

40

50

January March June September

Note: Overtime Improvement = 40%

% Improvement

Outstanding Case StudiesReceivables Management

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Software Firm DSO vs. Cash BalanceSoftware Firm DSO vs. Cash Balance

0

20

40

60

80

100

120

DSO

0

50

100

150

200

250

300

350

400

450

Cash Balance $M

DSO

Cash Balance $M

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Software Solutions Provider

101105

101

93

80

74

61 62

3032

30

26

38

54

37

57

0

20

40

60

80

100

120

Dec-00 Mar-01 Jun-01 Sep-01 Dec-01 Mar-02 Sep-02 12/31/02

DSO

5

15

25

35

45

55

65

STOCK PRICE

DSO

STOCK PRICE

Software Solutions Provider

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Cash Flow Enterprises

CASH FLOW ENTERPRISESDSO

35

40

45

50

55

60

Jan. Feb. March April May June July Aug. Sept. Oct. Nov. Dec.

Time Period

Da

ys

2004

2005

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Receivables Cycle Management (RCM) Practice

Specializes in helping clients convert orders into cash as quickly and efficiently as possible.

• We enable clients to realize significant savings in interest, bad debt, deduction, administrative, and concessions costs, while releasing, on average, 15 to 25% of the cash invested in receivables.

• The practice has helped over 100 clients realize the benefits of improved order-to-cash functions.

• Our hands-on, real world experience assures pragmatic recommendations and establishes credibility with client staff, which accelerates their adoption of new tools and techniques.

• Industry experience is broad with concentration in:• Medical products• Software• Professional services• Publishing

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Parson Consulting has partnered with over one hundred clients to establish new capabilities and improve existing capabilities along the Order To Cash spectrum.

• Track record

• Specialized expertise

• Objective view

• Pragmatic approach

• Field tested techniques

Why Parson?

Documents

Institute of Management Accountants Receivables Management: Cash, Profit, and Shareholder Value Las Vegas June 19, 2006