Strong sales and growing revenue are great, but during periods of growth, cash flow can become tight and create real problems. Take Michigan-based, Murder Mystery Theatre Company, as a cautionary example. As reported in Inc. Magazine, over a period of 3 years, the company grew to $4 million in sales, employed 800 independent contractors, and put on 5,000 performances per year. With the growth, the company soon lost control of its finances with incidental spending ballooning to $8,000 per month and employee travel costs of up to $10,000 per month.
Because the Murder Mystery Company had to rent equipment, space, and pay actors before all ticket sales were reconciled, a lack of a business management solution jeopardized growth and their ability to track and meet growing expenses.
To rectify the situation, the company invested in tablets for video conferencing to decrease travel expenses and installed a customized accounting software on each one of them. A year later, with incidental emergency travel almost eliminated and spending down 75 percent, it seemed the investment in hardware and accounting software paid off for the Murder Mystery Theatre Company.
As the Murder Mystery Company learned, more sales won’t do you any good if you lose control of your cash flow. To avoid cash flow problems, businesses need to build their overarching order management processes with its sub-processes in mind: procure to pay, order to cash, and invoice to payment.
Order management and its sub-processes
The order management process begins when a customer places an order and ends with delivery. It consists of three core steps:
- Order placement: A customer visits your online or physical store and selects items for purchase.
- Order Fulfillment: Your team picks, packs, and ships the ordered items.
- Inventory management: The background process that makes it all work — your team fills the order from a warehouse, updates inventory records to reflect the picked items, and track orders from shelf to doorstep.
But anyone working in order management knows the process is far more complex than carrying out these three simple steps. Order management has many moving parts with implications for both upstream and downstream supply chain operations, not to mention the financial health of your business. It’s therefore useful to take a more focused look at order management sub-processes.
For a more nuanced discussion on macro order management processes, check out our article [parent article]().
Procure to pay (P2P)
Procure to pay, sometimes abbreviated as P2P, can be considered a precursor process to order management. P2P is essentially procurement planning and is driven by the need for raw materials and services as inputs to production. It begins with an internal request for materials or requisition order and ends when the supplier is paid and the transaction is closed in your accounting system. Procurement often represents an upfront expense and eats into a business’s liquidity, and therefore impacts the rest of order management.
The P2P process should be informed by demand forecasting, vendor pricing and reliability, and the cost of shipping. Inventory management software can help collect and analyze this type of data to help improve your P2P process.
To reduce inventory management costs and maximize liquidity, ideally, materials are procured and paid for when they are needed.
Order to cash (O2C)
Order to cash, or O2C, is the key order management sub-process that ensures finished products are moving out and cash is moving in. The process begins when an order is placed and concludes when payment is received in full. As was evident in the Murder Mystery Theatre Company example, taking on new clients or managing longer buyer cycles can make your O2C cycle far more complicated and make it difficult to plan operational expenses — both in the near-term and in the future months.
Having a strong understanding of your procurement costs and landed costs can help you optimize your order to cash cycle so that you can maintain the liquidity and foresight your business requires. For example, if you know that you must settle supplier invoices and pay shipping vendors to deliver a certain order, you can require a partial client payment upfront. Some businesses also require clients to make a down payment when signing new contracts or when placing large orders.
Of course, making sure you tighten up your overall order management processes and having your team follow standard operating procedures is key. Eliminating data entry errors and delivering the right products on time tends to result in faster O2C cycles.
Invoice to payment
Invoice to payment is an even more granular process within the larger order management framework. It involves only the point of time from which the invoice is generated to the time payment is reconciled. The process typically involves the following:
- Generating the invoice
- Sending the invoice
- Applying discounts or credits
- Sending reminders
- Receiving payment
- Recording and closing the transaction.
Depending on your business type, you may not invoice customers until orders have been delivered, and payment may be due 15, 30, or even 60 days from that time. To encourage on-time payment (and therefore compress your O2C cycle), you can offer small discounts of 1 or 2 percent if the bill is paid within 10 days of receipt. If you are concerned about late payments destroying your cash flow, other actions to take include:
- Refusing clients who insist on longer payment cycles
- Taking out credit insurance
- Requiring clients to set up a standby letter of credit so you can recover defaulted payments
If you are trying to keep better tabs on your order management process, it’s important to know where to look for results, or lack thereof.
How to measure the effectiveness of your order management process
In addition to serving as a guiding framework to build your order management process, O2C is an important metric to measure its effectiveness. By keeping track of your order to cash cycle times you can develop company benchmarks to compare client cycle times and optimize processes to achieve more favorable results.
Other metrics to measure the success of your order management process include the following:
Days inventory outstanding: Also known as days of sales inventory, this measures the average number of days a company holds inventory before they sell it. There are industry-specific benchmarks you can use to measure your performance against competitors.
Days sales outstanding: This measures the average number of days it takes to collect payment on a completed sale. A lower ratio indicates a healthy O2C cycle, while a higher number suggests a clientele with credit issues or poor collection processes. This metric helps to identify your more reliable customers and offer them priority accordingly.
Order fill rate: Also referred to as demand satisfaction, this measures the percent of orders that can be filled immediately from available stock. This metric is closely tied to customer satisfaction and serves as a good indicator of how optimal your inventory levels are.
Perfect order rate: This metric considers several factors including order completeness, punctuality of delivery, condition upon arrival, and correct documentation. This metric also contributes to customer satisfaction and can help you earn repeat business and on-time payments.
Order Touches: This is a less conventional but no less useful metric. Companies like Hewlett Packard use this metric to gauge order fulfillment efficiency by literally measuring the number of times order items are “touched” during the picking and packing process. The data is then used to eliminate unnecessary activity. – Read more