A mid-size steel distributor had $8 million in accounts receivable. Their DSO (days sales outstanding) averaged 47 days against net-30 terms. That 17-day gap represented $1.5 million in capital that customers were using for free. At a 6% cost of capital, the company was losing $90,000 per year just on the timing difference. And that was before the $120,000 in actual bad debt write-offs they absorbed annually.
The AR Aging Report Is Your Most Important Financial Tool
Review the AR aging report weekly, not monthly. A $50,000 invoice that is 15 days past due on a monthly review has been past due for up to 44 days by the time you see it. That same invoice caught at 15 days past due on a weekly review gets attention before it becomes a collection problem.
Organize the aging report by risk, not just by dollars. A $100,000 balance from a customer with a 10-year payment history and strong financials is different from a $20,000 balance from a new customer whose first two invoices are already past due. The smaller balance may represent more risk. Color-code or flag accounts based on payment behavior trends, not just current aging.
Credit Policy That Protects Without Paralyzing
Set credit limits for every customer based on their financial strength and your risk tolerance. A common formula: credit limit equals one month of expected purchases, not to exceed the customer's net worth divided by the number of their significant suppliers. If a customer buys $40,000 per month from you and has a net worth of $2 million with 8 major suppliers, their credit limit should be around $40,000 (one month) with a ceiling of $250,000 (net worth divided by 8).
New customers start with conservative limits. Require prepayment or COD for the first 60 days. After 60 days of reliable payment, extend net-30 terms with a credit limit based on their actual ordering pattern. Increase the limit gradually as the payment history builds. This approach filters out the customers who would become bad debt problems before you have significant exposure.
Collection Procedures
An effective collection process has defined steps and timelines. At invoice date plus 25 days (5 days before the due date), send a friendly reminder email. At due date plus 5 days, make a phone call. Not a threatening call. A check-in: "I see this invoice is a few days past due. Is there an issue we need to resolve?" Often the answer is a lost invoice, an approval bottleneck, or a dispute that the customer has not communicated.
At due date plus 15 days, escalate. The sales rep gets involved because they have the relationship. The message is clear: "We value your business, but we need this resolved." At due date plus 30 days, put the account on credit hold. No new shipments until the balance is current. At due date plus 60 days, the account goes to senior management for a decision: work out a payment plan, turn it over to collections, or write it off.
The key to this process is consistency. Apply it to every customer, every time. The moment you skip a step for a "good customer," you have created an expectation that late payment is acceptable. The service centers with the best DSO are the ones where every customer knows the rules and knows they will be enforced.
The Sales-Finance Tension
The most common obstacle to effective AR management is the sales team. "You cannot put them on credit hold, they are my biggest account." "They always pay eventually, just give them more time." "If we push them, they will go to our competitor." These arguments are sometimes valid. They are often rationalizations for avoiding an uncomfortable conversation.
Align the incentives. If sales reps earn commission on booked orders regardless of collection, they have no motivation to care about payment. If commission is paid on collected revenue (the rep gets paid when the company gets paid), suddenly the sales rep is your best collector. They have the relationship and the incentive. Use both.