Of the many collections metrics in the finance team’s arsenal, one that deserves more attention is CEI – the collections effectiveness index. This is a collection efficiency KPI that indicates how effective a team is at collecting funds from customers and closing accounts. It’s a vital metric for any financial team to know and implement on a regular basis.
Below, we’ll review:
- CEI meaning and why it matters
- A basic collection efficiency ratio formula
- How CEI is used in A/R management
- How other metrics like DSO and DDO factor into CEI
CEI Meaning
The collection effectiveness index indicates how well your collections teams are able to collect payments from clients. A higher collection efficiency ratio correlates with a stronger collection process and can provide insight into collection team performance, customer relationships, and more. More specifically, it’s a measure of how quickly a company can collect on invoices and realize revenue.
CEI can be measured for any duration or period, though it’s often done monthly to provide up-to-date reports on collections health. It’s also an important complement to other financial metrics, such as days deductions outstanding (DDO) and days sales outstanding (DSO), which we’ll get into below.
The Collections Efficiency Ratio Formula
Here’s the basic collection effectiveness index calculation:
- [(Beginning Receivables + Monthly Credit Sales – Ending Total Receivables) / (Beginning Receivables + Monthly Credit Sales – Ending Current Receivables)] * 100
As an example, say your company has the following financials to work with:
- Beginning Receivables: $2M
- Monthly Credit Sales: $3M
- Ending Total Receivables: $2.5M
- Ending Current Receivables: $1.5M
This would make your calculation:
- 2M + 3M – 2.5M = 2.5M
- 2M + 3M – 1.5M = 3.5M
- 2.5M / 3.5M = .71
- .71 * 100 = 71% (CEI)
This gives us a CEI of 71% — a respectable (though still improvable) collections efficiency score. There’s no standard for what’s considered a “good” CEI ratio for every business; as a rule of thumb, anything above 75-80% can be considered good, while any score below 50% is troublesome.
Rather than trying to achieve a standardized benchmark, compare your CEI to past internal reports and aim for progressive growth.
Leverage CEI With Other Collections Metrics
While CEI is a vital metric, it tells only one part of the financial story. Companies will need to stay on top of other financial metrics as well, such as DSO and DDO, to get an accurate view of A/R collections efficiency.
As a quick refresher:
- Days Sales Outstanding describes the average number of days it takes to collect payments
- Days Deductions Outstanding details how well a company can resolve deductions and collect on invoices
Both metrics have implications for CEI and financial performance overall.
Days Sales Outstanding and CEI
The connection between DSO and CEI is clear, given how similar the two KPIs are. Both involve measuring the general ability to collect on invoices, but DSO goes a step further by showing you exactly how many days it takes to achieve your CEI ratio.
While CEI is a relatively broad measure of collection percentages in accounts receivable, DSO provides a more accurate snapshot of how specific clients or accounts perform within your collections process. It also provides more contextual information on cash flow and your credit policies – both important points in your A/R process.
Days Deductions Outstanding and CEI
DDO is another collection efficiency KPI, providing insight into your team’s ability to collect on invoices that may be in dispute. It’s a measure of how quickly you’re able to contact customers, investigate claims, and resolve issues, all of which contribute to your cash conversion cycle.
DDO covers elements that standard DSO and CEI calculations don’t, particularly when your company has numerous longstanding disputes open. High DDO rates indicate problems with your deduction management workflows and may require implementing new solutions to correct. In our experience, the easiest way to improve DDO (and your A/R processes overall) is to bring in new technologies that allow you to centralize financial data, establish electronic communications, and automate reason codes for faster reporting.
Get a Handle on CEI and Get Paid Faster
Nearly any company can benefit from assessing and improving their A/R workflows, but without new ways to handle existing problems, it can be hard to make meaningful improvements. Solutions are varied, but they include changing your internal processes, as well as A/R automation platforms that can assist with A/R management.
Whatever you choose to do, a collections effectiveness index can help teams transform their collections efforts and boost fund collection from customers.
