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26 July 2010

Making Sensible Decisions

One of my early clients taught me how to not manage invoices in a company. This department's policy was that if any customer's submitted payment was more than $1 less than the amount on the original invoice, then the company would deposit the payment and reinvoice the customer for the remaining balance. Any payment short $1 or less had the remainder written off as bad debt and the check cashed. On the surface, this sounds like a fairly sound policy, but when you dig into it further, you realize there were a few problems.

First, this company processed thousands of invoices per year with values for as little as $30 up to invoices that were over $1M. During the three years of history I reviewed, the company had only written off maybe $50 in bad debt. Contrast that with the hundreds of invoices they sent back out to customers requesting the missing funds for invoices that were short more than $1. In the grand scheme of things, it seems as if they do a really good job of collecting on their debt. That's a good thing, right? Well, maybe.

Consider if you will that a customer who paid $29 for a $30 product received the product at what is essentially a 3.3% discount, but the customer who purchased enough product to total over $1M would receive a 'discount' of 0.0001%. Seems a bit odd when put in these terms.

But it doesn't stop there. When you dig further into the numbers, you see that the customer purchasing at $30 was essentially a one-time purchaser but the $1M customer purchased year after year after year. Doesn't it seem like a bad policy in terms of customer service to reject an invoice over $1.01 when the entire purchase is over $1M?

Now, you've reached this point and some of you are probably screaming and banging on your keyboards, "NO! You must have standards!!!" and I totally agree! I just call in to question if this particular standard was a good one or not.

Let me add one more statistic that was floating around our project team... the cost for the company to produce an invoice, mail it and process the return payment. Anyone want to guess what this cost was? It was $12. So, you've got a company that is willing to spend $12 to collect anything from $1 to $11.99 and lose money on the entire deal. When you total up all the costs to recoup the missing revenue, you find that the company was losing a significant amount of money just in managing their A/R to this level.

Eventually, we did convince the department to make a change, but it wasn't one we found satisfactory. Instead of $1 being the threshold, it became $5. It wasn't the change that we wanted, but in the end it was the most that the company was willing to budge on the policy. In a way, we had a win, but to this day I wonder if that policy is still in place and if so, how much money they continue to lose with bad policies.

What are some of the bad policies you've seen in your time? Let us know in the comments!