While metrics such as WACD, or even DSO, are useful gauges of receivables performance trends, they only present one aspect of a complex environment. Knowing how long, on average, customers are taking to settle their invoices is quite useful. However, this statistic is most relevant when it is compared with the average amount of time that they have been granted to pay. Clearly, for a comparison of credit period taken to credit period granted to be relevant identical data sources or samples must be compared.
The article entitled "WACD (Weighted Average Collection Days) – finally, a receivables metric that cannot be distorted!" from Quarterly Review – Volume 1, Issue 1 detailed the process and logic behind AmplioGroup’s WACD metric. WACD provides an accurate and scaleable method of measuring customer payment times. The Average Terms concept works very similarly. In fact, the same equation is used to calculate Average Terms – with the days of credit granted substituted for the elapsed days.
The formula used to calculate Average Terms is as follows:
X = invoice values (or parts)
Y = elapsed days
To highlight the ease with which Average Terms can be calculated, the following example is offered:
 The first invoice has a value of $10000; was issued on October 2 2017; has a due date of November 2 2017
The second invoice has a value of $15000; was issued on October 9 2017; has a due date of November 20 2017
The first invoice’s value of $10000 is multiplied by the credit days granted (32) to provide a result of 320000. The second invoice similarly yields a result of $15000 times 43 or 645000. The two results are summed to provide a figure of 965000, which is divided by the total of the two invoice values ($10000 + $15000), to give Average Terms of 38.60 days.
As with WACD, Average Terms can be scaled from various A/R portfolio segments, all the way up to the entire portfolio population. Among the most useful levels at which Average Terms can be calculated are:
Customer
Customer Group (i.e. public or private sector)
Product Lines
Business Unit
Salesperson
Of course, combinations of segments are also particularly useful. For example, a combination of salesperson and customer group provides insight into the behavior and effectiveness of the salesperson in negotiating with particular customer types.
The Average Terms metric can be used in a number of ways to diagnose particular performance or customer relationship issues. Among the potential areas of concern that can be identified through analyses of Average Terms, or from a comparison of Average Terms to WACD include:
Input errors during the order processing procedures
Software coding issues preventing the input of the terms actually granted
Organizational policy issue contravention
Terms that are either too restrictive or too lenient compared to what the market or environment dictate
Customer segments that could be controlled more effectively through updated collection and management techniques
Once the organization is able to identify areas of potential concern, it can address appropriate remedial action.
Michael Van Luven
President and Managing Director
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