- June 30, 2019
- Posted by: admin
- Category: Accounting Advice
Are you a business owner who has ever stressed out about making payroll or had the feeling that at the end of the day there is nothing left for yourself? This type of feeling, due to poor accounts receivable management, is all too common in the pest and lawn industries. The good news is that it does not have to be that way anymore. Gone is the adage that when a service is performed it will be invoiced and paid at a later date. Typically, cash strapped service businesses are invoicing at month-end with due on receipt terms that customers still end up taking weeks to pay on. Best in class businesses have adopted customer payment policies that alleviate any cash flow issues by utilizing technology and requiring immediate payment for their services. Let’s explore some options and see what makes implementing a customer payment policy such a critical change that any business owner can do.
First, let’s put something into perspective. When consulting with my clients, I like to use the following example that highlights and bolds the need to implement a strong customer payment policy. When you go to a restaurant and are ready to leave, the restaurant never gives you the option to pay later. They give you a bill and require payment before you leave and if you can’t pay, have fun doing the dishes! Why should the way a customer pays for a lawn or pest service be any different than how a restaurant operates with its customers?
The answer is it should not!
There are many reasons why technology has enabled businesses to develop policies and procedures that get money in the bank quicker. The utilization of mobile handhelds and mobile printers have helped businesses invoice their customers and reduce the time it takes to start getting paid. Other capabilities of these programs such as processing credit cards and initiating ACHs have also helped. Below are options for a payment policy that will help reduce the accounts receivable balance with the pros and cons for each.
Customer Payment Policy Options
Create equal payments for the customer over a specified period which is normally done over 12 months and charged on the first of the month. This option requires either a credit card or bank account on file.
Monthly Installment Pro’s
- Remove seasonality out of the business
- Monthly payments create “gym membership” effect which helps bolster customer elasticity
- Creates constant and predictable cash flow
- Allows customer to budget
- Disassociates the payment with a service
Monthly Installment Cons
- Potential Accounting Headaches
- Increased banking fees due to increased processing volume
After each service is completed, payment is taken with either a credit card or bank account that is required to be on file.
Automatic Payment Pro’s
- Reduces time to collect customer receivables
- Thwarts troublesome customers that don’t want to be required to have a payment method on file
Automatic Payment Con’s
- Potential for larger payments to cause a customer to postpone, skip, or look for a cheaper alternative
- Increased banking fees due to increased processing volume
Offer a customer to prepay the entirety of their program when they first sign up or during a renewal of services.
Prepay Service Pro’s
- An influx of cash allows customers to fill offseason cash needs
- Completely gets rid of chance that a customer will not pay for services.
Prepay Service Con’s
- May create accounting headaches if additional services are added or if a customer cancels
- Usually associated with a discount that directly impacts bottom-line profitability
- Requires discipline to not overspend
When developing your business’s payment policy, it is good to know all the options available. The best option above is the monthly installment billing option. This option with a bank account (ACH) on file is the best and most cost-effective policy that a business owner can use in their operations. Having the ability to predict cash flow and eliminate any seasonality will be a tremendous advantage to the business owner looking to grow their business. One of the biggest advantages of changing to a policy like this is customer elasticity. Customer elasticity is the flexibility a customer will have during changing environments such as a reduction in income or an increase in price when it comes to their demand for a service. Lastly, you’ll notice that no matter what option is chosen, it is essential to require the credit card or bank account on file.
Benchmarking Your Business Policies
It is important to keep in mind when adopting a new policy that having the customer’s bank account on file is much better than their credit card. The major reason for this is the cost of processing. ACH transactions typically have fixed processing costs averaging $.30 per transaction whereas credit card processing is usually a processing fee + an average of 2.5% of the total transaction.
The savings will quickly start to add up when utilizing ACH processing, but if a customer is only willing to put a card on file, then at least you still have a great way of getting paid.
In order to make sure your company’s policy is keeping receivables in check, a good key performance indicator to look at is Days Sales Outstanding (DSO). This metric can be calculated using the following formula. The benchmark for DSO is 30 days, but by changing the way payments are collected with technology it can be drastically shorter.
DSO = (Accounts Receivable/Total Credit Sales) x Total Days in period
Annual Ex. $180,000/$1,500,000 x 365 = 43.8 days
Making major changes in an established business is always a tricky maneuver. Altering the company’s policy on how customers are going to pay is probably one of the trickiest. In my previous article, we discussed change management and what the proper steps are to help facilitate a major change. While it may seem like a big mountain to climb telling a customer how they are going to pay, my experience with clients who have managed to make the change is that there isn’t as much pushback as you would expect. If you are a business owner who has felt the stress of poor cash flow, consider making a change to one of the options above.