Unfortunately, it is common for customers to pay less than they owe, taking deductions off their bills or underpaying their invoices. For small businesses, this can create a significant loss in revenue and problems with cash flow. Some businesses have reported losing as much as 10 percent of their gross sales to deductions. Fortunately, companies can take steps to address and resolve these issues.

Reasons for deductions

Customer deductions can point to systemic issues such as quality control or a lack of communication between departments. Other organizational problems that may contribute to customer deductions include: poor relationships with trading partners, incorrect invoicing, shipping irregularities, problems with order fulfillment or inadequate order processing methods.

Some companies automatically write off deductions under a predetermined amount. However, savvy customers sometimes catch on and deduct amounts slightly below that threshold. Others take discounts on terms like two percent 10 net 30 even when they are paying bills monthly.

Large retailers are implementing more stringent compliance standards, leading to more deductions. For example, Wal-Mart introduced its Must Arrive by Date program in 2010. Suppliers who fail to deliver goods to Wal-Mart within a four-day window more than 90 percent of the time during a month are automatically docked 3 percent of the cost of goods sold. Since Wal-Mart is a leader in the retail industry, other companies are likely to follow a similar policy.

Deductions can be divided into three categories:

• Intentional deductions are sales-related and include advertising, markdown allowances, and special promotions. These deductions are considered the “cost of doing business” and are usually legitimate, so opportunities for recovering money are limited.
• Preventable deductions are frequently associated with compliance issues, such as shipping too early, too late or using the wrong carrier. These are easy deductions to address. A quick investigation can pinpoint where operations are failing, and correct the issue.
• Unauthorized deductions occur when customers short-pay their invoices because of pricing, returns, or full and concealed carton shortages. These are also deductions which can be prevented when proper oversight is in place.

Solutions to reduce deductions

Once business owners review current practices they can create best practice guidelines and invite team members to be part of the solution. Order fulfillment steps can include:
• Establishing checks and balances to ensure correct quantities, prices and sizes
• Inspecting products and cartons before shipping
• Reviewing customer’s compliance requirements to make sure all shipping, packing and labeling requirements are met
• Examining invoices to ensure documents contain correct purchase orders, invoice numbers and clearly defined payment terms
• Automating the accounts receivable process to better identify, document, track and resolve deductions

Deductions can be the result of any number of errors in a company’s process. Conducting a root cause analysis to reveal why customers are taking deductions can help determine appropriate recovery efforts and thresholds for automatic write-offs. Until the right tools and solutions are implemented, company revenue and cash flow will be in jeopardy.

Robyn Barrett is founder and managing member of FSW Funding, specializing in factor financing for small to mid-size companies. For more information, visit www.fswfunding.com.