Credit professionals are increasingly aware of the
money that is tied up in customer deductions and of the time and effort
needed to resolve them. In many cases, the work has multiplied to a point
where it is disproportionate to the allotted resources available to tackle
A sizeable portion of the increase in the
organizations trade receivables can be attributed to the growth of
unresolved customer deductions. In some cases deductions have become the
vehicle for both the seller and buyer to circumvent the anti-trust laws
and provide lower pricing to select customers while forcing others to
continue to pay published prices.
In fact, studies conducted by the Association of
Independent Certified Public Accountants (AICPA) have revealed that a large
percentage of companies have no time limit for requiring a deduction to be
resolved or even written down. They also discovered that the majority of
deductions, when paid, were settled for a reduced amount and the
documentation to support the reduced amount was often non-existent. These
actions further deteriorate any realized profit after taking into
consideration not only the time value of money but also the cost of
resources devoted to investigating the reasons behind the deduction.
Perhaps the most significant result of these studies is the findings that
the majority of firms included in the study wrote-down between 70 and 100
percent of all customer deductions.
To further emphasize the deduction phenomena these
same studies by the AICPA show that many companies have a policy that
permits the automatic write-down of customer short-payments without any
documentation or management approval.
How long does it take for a customer to realize that
they can deduct up to a specified amount from their billing with no
While it may be cost effective for some companies
within a industry to allow a deduction rather then allocate resources
(people and costs associated with deduction management) to investigate the
reasons for the deduction, there are companies that are operating on small
margins that cannot afford to absorb any un-warranted deductions. This
policy on the part of some in a particular industry could lead to an
“industry standard” that could eventually cause some firms within the
industry to go out of business.
This is a major problem, and it continues to grow.
One of the major impacted groups, we have witnessed in the past few years,
are those suppliers of goods and services to the retail environment. The
popularity and continued growth of the “big box” retailers has caused
change in the operations of both accounts receivable and accounts payable
as these large retailers become increasingly aggressive with their
deductions. Compounding this is that studies show that 90 percent of all
deductions by these super retailers are allowed after investigation, which
would lead one to the conclusion that there are major operational problems
in American businesses.
A deduction is often the hardest type of open item in
accounts receivable to resolve because most all departments in our
organization are involved in various degrees. The customer takes the
deduction based on their policy and procedures, and it is up to us to
prove whether they are entitled to the deduction or not.
Many organizations do not recognize deductions as a
warning of operational dysfunction and often react out of confusion. Thus
deductions are looked upon as a distraction to the business rather than
viewing them as a warning sign that something within the operation is
wrong, and taking the opportunity to correct it.
If deductions are viewed as only a collection matter,
the company is being derelict in its customer relationship and
responsibility. Many accounting and management-consulting firms suggest
the challenges to successful deduction administration are senior
management recognition, cross-departmental cooperation, lack of resources,
timely access to information and inefficient processes.
While credit and collection is often charged with the
responsibility of deduction resolution, they most often do not have the
authority to correct the underlying problems causing them. Areas such as
sales, customer service, distribution, production, IT, and management have
to become accountable for their inefficiencies and mistakes.
One can identify the advent of deductions when
organizations became more dependent on software integration for billing
and retired the billing department. Up until then the billing department
was not only responsible for billing the customer but also for insuring
that the billing, was in fact, correct prior to it being sent on to the
customer. To this end, billing would first produce what was known as a
pre-bill. Once produced, the billing specialist, who was responsible for a
select number of customers, would review the billing to make certain there
were no errors in price, terms, shipping or delivery of product and no
outstanding claims for shortages or returns. Once verified the final bill
was produced and mailed to the customer. This due diligence insured the
majority of customer billing was not only correct but also resulted in
very few losses resulting from customer deductions.
It was not until the early to mid-eighties when
computer software was created that integrated sales, production,
distribution, credit approval and billing did we begin to see the increase
in customer deductions. During this same period we began to see the
disappearance of the billing specialist and the billing department became
known as customer no service in most organizations.
Resolving customer deductions as soon as possible can
contribute significantly to reducing the carrying costs of receivables and
can lead to personnel that are more productive. The method least practiced
in deduction management is to write-off the total deduction during payment
application and charge back the difference against the department
responsible for the deduction; sales, distribution, production, etc., and
let that department conduct an investigation if warranted. Thus, the
impact of customer deductions continues to deteriorate both the financial
and operational performance of American businesses.
Some organizations, in an attempt to resolve
deductions in a timely manner, have created teams to administer the
problem of deductions with greater emphasis being placed on the sales
order as it is entered into the system. These teams are convened to share
information and also have the authority to make decisions. Their focus is
either to research deductions as they occur, prioritizing their efforts,
either by dollar amount, quantity, type or customer, or to investigate the
cause of the deduction problem that is responsible for deteriorating
The members of the team have complimentary skills and
are committed to a common purpose and performance level.
These teams of subject matter experts have the
authority to implement and manage the deduction problem and have proven to
be one of the best methods of attacking customer deductions. Based on the
success of these efforts we may see, in the near future, organizations
seeking employees with skills and workgroup experience to not only
investigate the causes of deductions but also have the authority to
eliminate the causes.
Many buyer/seller relations are governed by a
purchase order. This purchase order is often communicated verbally from
buyer to seller.
If the relationship is to yield profit for the
seller, care must be taken to not only follow the instructions and
procedures set forth on the document but also to require the document be
in writing so the seller can review the terms prior to acceptance and
amend the purchase order, in writing, to allow for any variance in the
Significant amounts of customer payment deductions
are a direct result of a lack of attention to purchase orders. Clearly,
failure to follow purchase order instructions to the letter completely
justifies the deduction from the buyer's perspective and this has been
demonstrated time and again when dealing with the “big box” retailers.
Greater care must be made to improve the quality of the orders being
entered into our systems and concurrently provide greater attention to the
review of order instructions to insure "quality in = quality
out" versus “garbage in = garbage out”.
Although the automated write-off of small dollar
deductions can reduce the overall cost of processing and resolving
customer short payments. The costs for monitoring abusers to the
auto-write-off tolerance must be weighed against the cost of the
As long as the monitoring costs are below the costs
of writing the items off, then the company should be indifferent about the
expense. However, auto write-off should be labeled with a unique reason
code so that monitoring of the category can be facilitated. Suppliers know
that customers will test their tolerance levels and, in many cases,
short-pay an amount just under the tolerance level. Therefore, it is
essential to monitor not only the class as a whole, but to pursue abusers
individually and take appropriate action such as adjusting the tolerance
level for a particular abusive customer.
Deductions are warning signs of a firm’s
indifference, incompetence and failings. If we fail to pay attention and
make the necessary corrections, as we become aware of them, then
regardless of how many resources we utilize to deal with them we are
doomed to continue to suffer their consequences.
I wish you well
The information provided above is for
educational purposes only and not provided as legal advice. Legal advice
should be obtained from a licensed attorney in good standing with the Bar
Association and preferably Board Certified in either Creditor Rights or