As appeared in the May 1999 issue of Business Credit Magazine:

 The Strategic Foundations of  Receivables  Outsourcing

Many companies simply cannot afford the diversion of management talent or commensurate investment in technology and systems to do as effective a job as an outsourcing service.

As long as any of us can remember, it has been standard practice to turn an account over to a third-party collection agent or a collection attorney if you cannot collect from a customer. Other forms of receivables outsourcing have gained relative acceptance recently. Nonetheless, receivables outsourcing is an industry that has enjoyed accelerating growth over the last decade.  Today there are a variety of ways, encompassing every area of receivables management, in which third-party outsourcers are being used. In every case, specialization provides the comparative advantage an outsourcing partner brings to receivables processes.

Supplementing Your Staff
For some companies, outsourcing is a means of dealing with growth. Hiring and training new credit and collection personnel require time and resources, two commodities in short supply at growing companies. These constraints are not a problem for an outsourcing firm because hiring and training credit analysts and collectors supports their core functions. Outsourcers have to be able to supply highly competent personnel, no matter what the situation is. By outsourcing credit and collection activities, companies with strong growth patterns can be assured of matching credit and collection resources to sales volume. That is a critical task, because future growth always depends on cash flow. Companies cannot afford to have cash tied up in receivables while new credit and collection employees are struggling to get on top of the learning curve. It is not uncommon for a new collector to take as much as three to six months to get up to speed.

Seasonal industries face similar limits to growth. If you staff your credit
department to handle the nine slow months, invariably your receivables will get backed up during, and for awhile after, the three busy months. The resulting slow paying receivables not only add to bad debt and interest expenses but also delay investments geared to enhance the following year's product cycle. Bringing in an outsourcing firm during the busy season avoids impediments to corporate growth and profits.

Organizations that have downsized, acquired additional business units but
not additional bodies, or are otherwise simply running with a lean credit team, find that outsourcing at least some tasks can make up for the slack. In such situations, it is vital that the permanent staff focus on their company's most important accounts. That is why bringing in outsourcing services ensures your own employees can focus on current issues.

Overcoming System Limitations
Constraints on system resources also create opportunities for taking advantage of outsourcing services. To efficiently support the activities of their expert personnel, outsourcing providers invest heavily in technology. Even those processes that have not been fully automated have at least been streamlined to maximize efficiency.

Many companies simply cannot afford the diversion of management talent or commensurate investment in technology and systems to do as effective a job as an outsourcing service. Take the collection process, for example. An outsourcer will not only use fully integrated collection software that includes prioritized work queues, computerized contact management utilities, plus automated dialing, faxing and e-mail, but may also add automated remittance processing, imaging capabilities, and call center automation, all to maximize employee productivity. Generally, only the very largest corporations can afford to integrate all this themselves, much less justify the expense. In addition, most manufacturers have limited information technology (IT) resources, so implementing this technology
and making the different pieces compatible can be difficult if credit and
collections is not recognized as a top priority by upper management.

The year 2000 problem (Y2K) only adds to the problem of system limitations. One solution if your  A/R system is not Y2K compliant_is to outsource receivables management. By doing this there is no need to replace your A/R software, because you will be relying on your outsourcing partner's systems. This way, you not only save the actual expenses associated with achieving Y2K compliance in your receivables area, you also save indirect costs in terms of productivity lost when resources are being diverted from their normal functions to the Y2K project.

Addressing High Exception Volumes
Customer payment deductions, disputes, chargebacks and various other types of exceptions are all symptoms of underlying system problem. The proof of this is the fact that most companies find that over 90 percent of their customer's deductions are justified. So to begin with, deduction resolution provides a minimal payback. Added to this, it is time consuming and requires investigating a lot of documentation. This takes time and resources away from routine collections, which offer a much higher payback.

Unfortunately, you cannot simply ignore deductions. First of all, some of
your customers, would figure this out and start taking larger and larger
unauthorized deductions. Second, over time, the 10 to 20 percent of deductions that are unauthorized add up to a lot of money. This makes a strong case for outsourcing deduction resolution when exception volumes are high.

Besides recovering on a contingency basis some of the cash flow lost to
deductions (also known as receivables dilution) and being able to focus the
collections function on higher dollar recoveries, a deduction outsourcing firm can provide reports and other intelligence to help you eliminate the root causes of your deductions. When the system breakdowns are fixed, the need for back-end support is reduced. The idea is to prevent your receivables from becoming diluted with deduction problems in the first place, so in this sense, a good deduction outsourcing service will work themselves out of a job.

However, in many industries, including food and consumer goods, promotional deductions are standard operating procedure. In these high exception volume situations, an outsourcing partner has some added advantages over an in-house operation. First of all, outsourcing firms have an in-depth knowledge of the major retailers as well as the different retail markets. The outsourcer is not only calling on these customers on your behalf, but also for the benefit of many of their other customers. The outsourcer knows who to contact in upper management when the initial contact is uncooperative. The outsourcer is much less easily put off because over time and through their many contacts they have gained intimate knowledge of the debtor's policies and procedures.  Ultimately,
the outsourcer's knowledge base of these complex businesses and distribution channels translates into higher returns for the creditor. Many outsourcers are transparent to the customer, therefore, preserving relationships and improving customer service.

Use Outsourcing Resources Strategically
One of the keys to an effective outsourcing partnership is to apply outsourcing resources strategically. Outsourcing should be used to supplement, not replace, a corporation's core competencies. In other words, if you run into a backlog problem or some other situation that requires additional attention, you should not simply say "let's outsource it." Your situation could be one that your credit and collection staff is not only capable of handling but also one they should be taking care of themselves. Critical issues, such as generating cash from current receivables, demand attention from your own personnel. However, there may be other tasks that are distracting your staff from important issues, and those are the ones that should be candidates for outsourcing.

Some companies view credit and collections as a support function, and as
such it is not part of their core competency. Both small growth companies and large corporations are reaching this conclusion, and so making the strategic decision to outsource all or most of the credit-approval-to
collection-to-cash-application cycle. Other companies see credit and collections as a vital ingredient in their customer relationships but are still making strategic decisions to outsource some credit and collection tasks that do not bear upon the relationship aspects of the job. In both these situations, the outsourcer is brought in to provide added value to the credit and collection processes.

Ways Receivables Are Being Outsourced
A number of different outsourcing options have already been mentioned, but it is useful to look at them again in the context of all the different outsourcing combinations being applied to credit, collections and receivables management. Every situation is different, so it is important to realize that every outsourcing partnership is going to be unique, especially when more, rather than fewer, tasks are being outsourced.

The Entire Order-Outsourcing-to-Cash Cycle - is a viable option for both large and small companies. In fact, with large companies, the strategic value may be all the greater. Keep in mind that outsourcing does not necessarily mean that credit and collections is handled from a remote location. In some cases, the outsourcer simply takes over management and support of your credit and collection staff who then remain on your premises.

Credit Information Gathering - This is primarily a clerical task and is,
therefore, quite suitable for turning over to a service. In fact, services that
will check credit application information--such as bank and trade
references_have been around for quite a few years. With the multitude of
information services now available, these service will build your credit files
to your specifications, so all you have to do is make the decision.

Total Credit Decision - More than any other segment of the order approval to cash process, companies have been reluctant to let an outsider make credit decisions. Yet credit departments have faithfully relied on credit ratings set by outsiders as the primary or even sole determinant of many of their credit decisions. Companies with high margins or few sales that reach a critical amount can do well by outsourcing the credit decision process so they can concentrate their resources on collections. Some companies effectively outsource the entire front end of the process by working with a credit insurer.

Total Collections - For some companies, the front end of the process is
critical_or they simply do not want to give it up_but the collections process
poses an administrative burden that can be suitably outsourced. However, know that if your deduction volumes are high, you will probably need to give that responsibility to your outsourcing partner also. Otherwise the collectors will spend too much of their time passing deduction details back to your company.

Small Balance Collections - The idea here is to keep large and critical
customers in house, while letting an outsourcing firm handle those 80 percent of your accounts that account for only 20 percent of your sales.

Recent Past Due Collections - Most initial collection calls require a soft
contact or a simple reminder for which extensive customer and product knowledge is not necessary. Today, it is possible to find an outsourcer that will use a combination of letters, faxes and phone calls, or just phone calls_depending on your company's preferences_to ensure that all recently past due receivables (typically those in the 1 to 30-day column) are thoroughly covered.

Deductions/Exceptions - Deductions are a prime candidate for outsourcing. They are the primary productivity killer affecting the commercial credit profession, diverting attention from more important matters and eating away at critical profit margins. To make matters worse, many companies lack the organizational structures and process tools to resolve deductions effectively and thus waste more resources than their recoveries warrant. In particular, outsourcing is a very effective tool for clearing up backlogs and is also appropriate where promotional programs necessitate an ongoing process for quickly and efficiently processing deduction issues.

Remittance Processing - This is another primarily clerical and labor intensive task that can be done readily by an outside firm, even if exception volume is high. Superior systems provide the outsourcer with a productivity edge.

Seasonal Businesses - Any credit and collection operation that deals with
seasonal spikes in the sales cycle can benefit from an outsourcing partner
helping to collect receivables during the busy season.

Freight Claim Filing and POD (Proof of Delivery) requests -  These are additional, primarily clerical, activities that take time away from the
collection process. An outsourcing firm has the advantage of handling these
types inquiries on a regular basis with all the major carriers.

Turnarounds, Liquidations and Acquisitions - Whenever there is a major structural or organizational change, there is the potential for receivables to get out of hand. Receivables outsourcing firms can not only help pick up the pieces, but can also provide a bridge when planned changes are going to affect receivables, ensuring that the cash keeps flowing. This is always a critical component when organizations undergo duress.

Expertise, Expertise, Expertise
The old saying about buying real estate suggests that the three most important factors are  location, location, location. When it comes to finding an outsourcing partner, the key is expertise, expertise, expertise. Whatever you are looking for your outsourcing partner to do, it should be able to do it better than you can. If the outsourcing partner does not have the expertise, does not have a wealth of experience and lacks the supporting expert systems, your outsourcing program has little chance of being successful.

The decision to enter an outsourcing partnership should center on the added value that is created. This requires the outsourcing partner to not only provide productivity improvements, but also better reporting. A trained professional staff dedicated to project management and superior information systems ensures added value to your organization both in terms of performance and corporate intelligence. Your staff is then free to concentrate on their core competencies to further improve productivity and to realize opportunities that were previously missed.

In effect, the synergy from an outsourcing partnership should refocus your processes and resources on your company's priorities. In the case of receivables outsourcing, cash flow should be increased by better prioritizing collection efforts and shortening the collection cycle. Profitability should also be enhanced through the optimization of the bad debt-to-sales ratio. The bottom line is that any outsourcing endeavor should be self-funding from the standpoint of cost savings, incremental profits and/or cash flow.

Choosing an Outsourcing Partner
Besides expertise and added value provided, there are a number of factors that should be considered when choosing an outsourcing partner. The first place to start is with references.  An outsourcing provider's track record with other companies facing similar situations as your own is one of the best ways to gauge future performance. Credibility within the commercial credit fraternity is also important. Are your potential outsourcing partner's services recommended by the Big Five accounting firms, management consultants and banks? You should also find out how long they have been in business and who will be working on your account, as those two issues relate to the depth and breadth of an outsourcer's experience.  Will you be working with veteran credit managers with 10 or more years experience in a commercial credit environment or with entry-level collectors and credit analysts? Ask how much and what types of training the outsourcer's staff has been exposed to.

You should also investigate the size and capacity of all potential outsourcers. Do they have the capacity to handle large projects or meet critical requirements? This speaks both to the number of credit and collection professionals on their staff as well as to the capabilities of their information systems. Their systems should ensure compliance with your financial, customer service and sales objectives, in addition to meeting your receivables management needs. Additionally, these systems need to be transparent to your customers so they do not recognize that a third party is handling their account.