The 4 key Areas To Measuring Financial Performance

NEXUM Software The Discussion Series of papers Subject: Value Information
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The Discussion Series of papers: Value Information
If I couldchoose a wordthat holdsthe highestvalue tousas individualswithin abusinessitwould‘feedback’.
If I coulda wordfrom the dictionaryitwouldprobablybe ‘criticise’.
Everybusinesscanimprove insome way,everyday – we justneedtothinkof a way.
NEXUM The DiscussionSeriesof papers takesonsubjectsrelevanttousall,our businessandourcustomers and
looksat them, objectively. Muchof the contentcomesfrom everyone I have knownand workedwith duringthe
past 20 years.
I hope the subjectscoveredinthis serieshelpsyouinsome way.NEXUMThe DiscussionSeriesof papers also
underpin arange of webinarsandevents formingthe basisof one toone sessionswith customers.

About the Author:
JimStanley isa co-founderof NEXUMSoftware. NEXUMisa UK companywitha passionfor
credittechnologydatingbacktothe 1990's andthe firstchoice fororganisationsrequiring
eitheraccountsreceivables,creditcollections,legalaction,enforcementoragent
performance monitoringsoftware.
Followingahighlystructuredanddisciplinedcareerwith the Ministryof Defence (RoyalAir
Force) Jimlandedwithinthe hustleandbustle of alaw firm, headingupIT. He recalls
"converting secretariesfrommanualtypewritersto computerbased word processing",
implementingafirmwide 'local areanetwork,plusaccountssystemsandmostimportantly
a cuttingedge debtrecoverysolutionthatprintedletterswithouthumaninput!The computer usedmagnetictapes
for storage,whichsoonprogressedontosomethingcalleda'hard disk'whichwasstoredina speciallychilledroom -
the Winchesterdiskdrive was30Mb and weighed90kg's!
Witha passionforsoftware Jimmovedontospecialise in'collections'software andoverthe yearsworkedwith UK
organisationsincludingAbbeyNational PLC (Santander),LombardBank,NationwideBuildingSociety,Chelsea
BuildingSocietyand NorthAmerican corporatesincluding GartnerGroup,OtisElevators,GeorgiaPacific,Carrier
Corporation,EDSand Alcatel global.
For more than a decade Jimand histeamat NEXUM have worked 100+ clientsinclude The LondonSchool of
Economics,FirstUtility,TravisPerkins,HerbertSmithFreehills,SouthEastWater,WilkinChapman,Blake Morgan,
Cabot Group,DixonsCarphone,RedwoodCollections,MarstonGroup,CourtEnforcementServices,IconCollections.
Recognisingthe widervalue of creditmanagementtoa businessJimstudiedanMBA specialisinginMarketing,
writingpaperscoveringthe relationshipbetweenbusinessesliquidityandprofitabilityand how customersare
attainedandretained.In2008 Jimwas electedaFellow of the CharteredInstitute of Marketingandin2011 and was
honouredtoreceive the coveted 'CharteredMarketer'statusbythe Institute.Jimcontinuestofocusonthe
interdependencybetweencreditmanagement,salesandmarketingandhow to improve these areas.

Let’s start off with a few questions.
"Know thyself"
 How quicklyare youcollectingpaymentafterthe pointof sale?
 Howdoesthiscompare to last week,month,year?
 Are youon target?
 If not whynot?
 Where isthe riskin the portfolio?
 Whichcollectorsare collectingthe most?Why?
 What are the restof the teamdoing?
 What isthe cash forecastfor the nextsix months?
 Howdoesthiscompare to the previoussix months?
 Howare customerspaying?
 Are theypayingtoterms?
 If not whynot?
 Atwhat stage of actionare customerspaying?
 Howmany customersraise invoice disputes?
 Dispute type,amountandresolutiontime-frame?
 Howdoesthisrelate toa branch,salesperson,product type?
 What isthe true cost of your actions?
If you knowall the answers,isthe informationeasytoprovide?

The basisof improvementisthe thoroughanddetailedunderstandingof the 'now'or
the presentmomentreflectingthe statusof yourbusiness.Withoutagreat
understandingyouare reallyjustguessing,makingdecisionsbasedonyourown
experience andviewsormore worryinglymakingdecisionsbasedonthe opinion
others whomay alsolack all the information.
Great software isonlyasgreat as the people that have createditand those that use it,
whoare onlyas goodas the knowledgetheyhave gained,whichisgovernedbytheir
desire tolearnmore,developandprogressontogreaterheights.
Improvingcashflow is oftendependantonfourcore components (in equal
importance!)
1. Strategic approachto managingaccounts
Your businesswillhave aunique combination of products,services,customertypes,branchlocation,
paymenttermsandorder values.These variouscharacteristicscombine tocreate profiles.Your
collectionstrategywill determine how customeraccountsare managed.
2. Well trained people
Your teamwill understandwhattheyneedtodoand when.Usinginformationavailable tothem,each
personwill actand react inaccordance withyourbusinessstrategy.
3. An effective system to supportthem
Your collectionsstrategyemployedbyyour teamwill needtobe managedandan effective collections
systemwill be requiredto helpmanage andsupportthe process.The automationof repetitive tasks
togetherwiththe storage of essential informationwill be the keyfunctionof asystem.
4. Accurate and timelyinformation
Understandingwhichteammembersare performing,how customersare payingandwhichstrategies
are workingatthe clickof a mouse isessentialtoyourdecisionmaking.

Thispaperfocusesonaspectsof the orderto cash processwithinanorganisation forgoodreason.The
cash collectionsprocessformanyyears hasbeen viewedbymanyaspurelya letter(dunning) andchase
process,butactivitiesandfunctionshave evolved.Throughoutmyownexperience both'chasing'
paymentandadvisingcustomershow toimprove,the rootcauseswhy some paymentsdonotmeet
expectation laywithinthe builduptothe paymentdue date. Summarisedbelow are some keyareas;
 Customercommunicationsandexperience
 Creationof the 'order'
 Orderfulfilment
 Invoicing/billing
 How customerspay
 Cash application
 Collectionsprocess
Failure orweaknessinanypart of the above createsa dominoeffectthroughthe lifecycle fromthe
customer'sorderthroughto final paymentandforthis reasonthe role of credit/receivablesand
collectionsmanagementtouchesmore pointswithinanorganisationthanever.
I believethatthere are fourkeyareasfor measuringperformance,withinthese there are many
measuresthatcan be usedto reflectthe decisionneedsof yourorganisation.
Performance toexpectationisaphrase oftenused.The value andimportance of effective cashflow
managementisatis highestformanydecadesandmanagersare requiredtoprovide detailed
commitmentstotargets.KeyPerformance Indicatorsrelatingtoinvoice aging,dispute resolution
targets,Days SalesOutstanding,riskandcashforecastsforthe nextweek,monthandquarterare now
requiredasseniormanagementdeterminetargetsaroundeachmetric.
Understandingthe the speedandflow of cashintoyourbusinessasa resultof trade,the factorscausing
delinquencyandbaddebtshouldbe highonyourstrategicagenda,whetheraboutto,withinorhaving
justexperiencedaneconomicdownturn. Cashremainsking.

The why’s,what’s and how’s.
Establishing best business practices around the order to cash cycle requires benchmarking. Reviewing the current
position together with existing working practices is a major part of our review. Working with you to develop new
working practices aimed at improving the entire order to cash cycle is a key objective.
Evaluating performance around the Credit function either at individual, departmental or company level has always
provedchallenging.Agreeingwhichmeasurementtouse evenmore so.Atthe endof the dayeach businesswill have
it’spreference;thisisoftendeterminedbywhichformula‘presents’the informationinthe mostappropriatemanner.
The purpose of thisdocumentisto serve as a guide providingabackgroundandunderstandingof the various
measurementsavailable.Ourapproachisoftento workwithyouto establishthe bestmethodof reportingasitis
importantthatperformance figuresare presented inamannerwhichcan be easily interpreted andbenchmarked.
The right measurementisthe one thatmeetsyourorganisational needs.Todetermine if ameasure meetsyour
organisational needs,logicdictatesthatyoumustfirstunderstand those needs.Once yourneedsare understood,
youmust thenidentifythe mostappropriatemeasure tomeetthem.Thisrequiresathoroughunderstandingof
whatthe measure expresses.The rightmeasure willexpressavalue thatcomplementsandsupportsthe objectives
of the company,division,department,orsubgroup.
The followingquestionswill helpyoudetermineif the right measure is beingused:
 What doesthe measure express?
 What do the resultsof the measure indicate?
 Doesthe measure supportthe objectives?
 Is the measure valid?
 Is there a more validmeasure thatshouldbe used?
 Doesthe use of the measure'sresultscomplywithorganisational goalsandvalues?
 Shouldthe measure be usedindependentlyorinconjunctionwithothermeasures?

Whymeasure performance withinthe order to cashcycle anyway?
Identify areas of expertise Identify areas of potential growth
Improve policies and procedures Reduce the level of customer disputes
Shorten lead time Increase customer satisfaction
Reduce customer complaints Increase customer retention
Improve financial performance Improve employee morale
Focus employee training and support Increase productivity
Increase cash flow Reduce costs
Reduce bad debt Perform fair individual and group evaluations
Regardlessof the measurements chosentoevaluateanorganisation,theymustbe able tostandthe testof time.The
measures that make an organisation look good today may not in the future. The goal is to identify and consistently
use valid measures that work over time, not just measures that work for the moment.
If a measure isnotunderstood itshouldnotbe used.Itis difficulttoexplainordefendsomethingthatisnot
understood.Alwaysuse measuresthataccuratelyreflectreality,andthenmanage forimprovement.
What makes a measurementbeneficial?
A beneficial measurementfillsaneed andmeetsaspecificobjective.If ameasurementdoesnotaccomplishapurpose,
don't use it. If a measure isbeingusedandthe objective isnotunderstood,figure itout.All productive activityhasa
purpose. Meaningful measurements will support the organisation's mission and help reach organisational goals.
The measurementusedmusthaveastandard.The standardcanbe asetvalueorarange.Forexample,if thecontroller
of a company is using Days Sales Outstanding (DSO) as an overall measure of accounts receivable in relationship to
credit sales, what is acceptable? Is the standard a set value such as 45 days, where any value below 45 days is
acceptable?Perhapsthe standardisarange suchas42daysto51days,where anyvalue withintherange isacceptable.
Using a range as a standard has some benefits. In this example, the low-end of the range may reflect a credit policy
that is too strict, while the high end may indicate a policy that is too liberal. If a company does not sell to marginal
customers,the company'sDSOwillbe lowerthanif theyacceptthe increasedriskandpotential profitassociatedwith
marginal customers.
A measurement must be comparedto some standard or it has no meaning. Standards may be set according to past
organisational orindustryvaluesortrends.Again,usingthe DSO example,the acceptable range maybe the industry
high and low from a standard determined externally.
Consistency is the next element of a meaningful measurement. If the standard DSO calculation is used one month,
Sales Weighted DSO cannot be used the following month. Likewise, the acceptable standard and the comparable
standardcannot change monthly.It'strue that measurementsneedtobe evaluatedandupdatedfromtime totime,
but the update should be completed on more of an annual basis than monthly.

The effective implementation of measurements requires action. This is similar to a guidance system on a missile.It
has an acceptable standard (hitting the target). It also has a comparative standard (the course to the target). The
missile is constantly comparing its current position (course) to its destination (target) and making the necessary
corrections to stay on course. As mentioned earlier, the acceptable standard can be specific or general.
An effective measurement provides a benefit. One benefit could be the satisfactionof reaching a goal and realising
the implications of that success.
Organisations should communicate all measurements and standards to those individuals who are responsible for
executingthe actionplanthatwill helpthe organisationreachitsgoals.Measuresof performanceshouldbe graphed
or chartedas part of the reportingprocess.The oldadage thatstates,"whenperformance ismeasured,performance
improves, but when performance is measured and reported, the rate of performance accelerates" is true
How to use Creditand CollectionMeasurements
CollectionEffectiveness
Days SalesOutstanding
CollectionRate Measurements
Operational Performance Measurements

Collection Effectiveness Index (CEI)
Description:This percentageexpressestheeffectivenessof collection effortsovertime. The closer
to 100 percent, themore effectivethe collection effort.Itis a measureof thequality of collection
of receivables, notof time.
CALCULATION
BeginningReceivables +(CreditSales/N*) - EndingTotal Receivables
BeginningReceivables+(CreditSales/N*) - EndingCurrentReceivables
X 100
*N = Numberof Monthsor Days
Days Sales Outstanding (DSO)
The Days Sales Outstanding financial indicator shows both the age, in terms of days, of a
company'saccountsreceivableand theaveragetimeit takesto turn the receivablesinto cash.
TheDSOcan be compared to industry and companyaverages,aswellascompany selling terms
enabling you to determine how yourreceivablefunction is performing and theacceptability of
such performance. There are several methods of calculating DSO, including a regular
calculation and a best possible calculation.
Description:This figure expressesthe(aggregate) averagetime,in days, thatreceivables areoutstanding.Ithelps
determineif a changein receivables is due to a changein sales,or to anotherfactorsuch asa changein selling
terms.An analystmightcomparethedays'salesoutstanding with thecompany'screditterms asan indication of
howefficiently the company managesitsreceivables.
CALCULATION
Ending Total Receivables x Number of Days in Period Analysed
Credit Sales for Period Analysed

2.1 Best Possible Days SalesOutstanding or Average Terms Based on Customer PaymentPatterns
Description:Using onlythe currentportionof receivables,the BestPossible DSOyieldsinsightintodelinquencies.As
a measurement,the closeryourregularDSOis to the BestPossible DSO,the closeryourreceivablesare tothe
optimal level.
To calculate your Best Possible DSO three pieces of information are required:
 CurrentReceivables
 Total creditsalesforthe periodanalysed
 The Numberof days inthe periodanalysed
CALCULATION
Current Receivables x Number of Days in Period Analysed
Credit Sales for Period Analysed
2.2 SalesWeightedDSO
Description: as with the regular DSO calculation, measures the average time that receivables are
outstanding. This is an improved method of calculating DSO because it attempts to smooth out the
bias of credit sales and terms of sale.
CALCULATION
((CurrentAge Category/CreditSalesof CurrentPeriod) +(1 to 30 Day Age Category/ CreditSalesof Prior
Period)+(31to60 Day Age Category/ CreditSalesof 2nd PriorPeriod) +(61 to 90 Day Age Category/ Credit
Salesof 3rd PriorPeriod) +(91 to 120 Day Age Category/ CreditSalesof 4th PriorPeriod) +(etc.)) x30
Note:There are several formulastocalculate SalesWeightedDSO.Thisisasimple expressionof those formulas.
Otherformulas orexpressionsyieldthe same results.
2.3 True DSO
Description:calculates the actual number of days credit sales are unpaid by tracking individual
invoices to the month of sale
CALCULATION
Numberof daysfrom invoice date toreportingdate x(invoice amount/netcreditsalesforthe monthin
whichthe sale occurred) = True DSO perinvoice
The sum of True DSO for all openinvoices=True DSO pertotal accountsreceivable.

2.4 DelinquentDSO or Average Days Delinquent
Description:This figure expresses,in days,theaveragetime fromthe invoicedue dateto the paid date.
CALCULATION
DSO minusAverage TermsBasedonCustomerPaymentPatterns(BestPossibleDSO)
Collectionrate measurements
The measure should express a value that complements and supports the
objectives of your company and department. It must be communicated to all
individuals responsible for the process being measured. It must be compared to
some standard, for instance, past company performance, or an industry
benchmark. It must be used consistently, from month to month, year to year. The
results should elicit some action - correcting course, managing change for
improvement. It should provide a benefit. This could be as basic as the
satisfaction of reaching a goal that contributes to the organisation’s success
3.1 Days Average CollectionRate
Description:This figure expresses,in days,theaveragetime fromthe invoicedate to the date paid.
CALCULATION
Total Flowof Funds
Total FundsApplied
3.2 Prior Month'sPast Due Collected
Description:This percentageexpressestheamountthathasbeen collected in the current month of theprior month's
pastdueamount.
CALCULATION
1 -
CurrentMonths PastDue Age Categories
BeginningReceivablesof PriorMonth

3.3 PercentOver 61 Days -- or Percentof Any Age Category
Description:This figure expressesthepercentageof Total Receivablesthatis 61 Daysor morepastdue.
CALCULATION
Sum of the 61 Days and Older Categories
Total Receivables
3.4 Bad Debt to Sales
Description:This expressesthe percentageof credit salesthat were written off to bad debt.A lower percentage
signifiesthat effectivecredit policies and proceduresare employed.
CALCULATION
Bad Debt Net of Recoveries
Credit Sales
Operational Performance Measurements
Operational performance measurements indicate how well the company, division, team and
individualare performing.These are keymeasurementsinensuringthatyourCreditOperation
is performing to an optimum level. In addition to monitoring these measurements will help
identify areas requiring improvement.
4.1 Active Customer Accounts per Creditand CollectionEmployee
Description:The higher thenumberof accountsper employee,themore efficientthe useof technology and people.
CALCULATION
Number of Active Customer Accounts
Number of Total Department Employees
4.2 Active Customer Accounts per CreditRepresentative orCollector
Description:The higher thenumberof accountsper employee, themore efficientthe useof technology and people.
(This is an individualmeasure.)
CALCULATION
Number of Active Customer Accounts
Number of Total Credit Representatives or Collectors

4.3 Operating Cost perEmployee
Description:The lower the cost,the moreeffective useof technology and people.
CALCULATION
Departmental Operating Costs
Number of Department Employees
Cost per Sales£
Description:This calculation relates £’s spentin the credit and collection effortto credit sales generated,orhow
much it costthe company to processeach £ in credit sales. A higherpercentagesignifiesthata moreeffective
operation is employed:
CALCULATION
Departmental Operating Costs
Credit Sales
Is yourcost per creditsales £ good?Thisquestionisrelative.Itcouldbe answeredbybenchmarkingwithother
organisationsormeasuringitself againstitsownpastperformance.
Final thought.
Benchmarkingandmeasuringperformance isanimportantaspectof businessimprovement. Knowingwhere you
are and where youwantto go iskey,agreeingonwhichmeasurementtouse equallyimportant.
Most organisationswill benefitfrom anapproach of reviewingexistingprocesses.Understandingwhere youare and
where youwantto go isthe critical pathto success. At NEXUMwe take an approachof workingwithyouto
understandall the areasrelatingtoorderto cash process.Althoughwe are a single producttechnologycompany,
howNEXUM worksfor youwill differfrommostotherclients.Yourbusinesshasa unique footprint,by
understandingyouruniquenesswe canworkwithyou,implementNEXUMtomatch your businessrequirementsand
provide shorttermgainsinthe areas that needitmost.
For more informationcall uson0845 226 8184 or visit www.nexumsoftware.com formore information.

The 4 key Areas To Measuring Financial Performance

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