It’s pretty well established that finance leaders are continually striving to use data more effectively, with an imperative to produce better reporting on key performance indicators (KPIs) and identify areas to realize cost savings across the business. But much of the hunt for waste and inefficiencies begins within the accounting and finance function itself. A key area of optimization in this regard is the accounts payable process and the people who manage it.
Closely monitoring KPIs around what the business owes to its suppliers, vendors and creditors helps weed out errors, drive down costs borne of process inefficiencies and optimize cash flow—which are many of the benefits of AP automation.
What are KPIs?
A KPI is a business metric that is linked to a performance goal. Tracking KPIs helps the business see if it is moving toward its objectives and making the right business decisions to get there. KPIs provide a compass to monitor and shift direction internally, but they can also be used to help benchmark the performance of an organization against peers in its industry. KPIs provide ways to measure the efficiency, cost or outcome of the different parts of business processes.
There are KPIs that are relevant for businesses across a broad range of industries and others that are unique to the industry. For instance, inventory management metrics such as order fill rate or order cycle time are important to wholesale distribution companies. Customer churn rate and customer acquisition costs are important KPIs for SaaS software companies. But most financial KPIs are relevant across industries, with KPIs around accounts payable processes providing a lot of clues to where efficiencies or cost savings can be achieved.
Why are AP KPIs important?
Accounts payable are the company’s short-term liabilities—the cash it owes its suppliers, vendors and creditors that will come due in less than a year. The people who manage that process make up the accounts payable department.
AP KPIs provide ways to measure the AP process itself as well as the productivity and efficiency of the people who manage it. Making sure suppliers are happy while balancing the benefits of credit for cash flow is a really important job. If those suppliers, vendors and creditors don’t get paid on the timeline they expect, the company can’t get whatever goods or services it needs to do business. And if the company doesn’t hold on to enough cash month over month, it can’t run its business let alone make plans for growth.
Why does your AP department need KPIs/goals?
Because the accounts payable department sits at the intersection of many business functions, mistakes and inefficiencies in that process have ripple effects across connecting processes. AP KPIs provide signals that the business needs to look deeper into the process to find answers. A high days payable outstanding rate could be the result of delaying payment to suppliers because not enough cash is coming in to pay them—an obvious issue with revenue the business needs to look further into.
Processing a high number of invoices compared with others in the space could indicate that the business is working with too many suppliers and missing out on discounts and cost savings from consolidating business. A high number of payment errors or duplicate payments could signal fraudulent AP practices—accomplished by paying shell companies or paying vendors the company no longer does business with.
12 Top AP KPIs you should be tracking
AP KPIs help the business move toward better performance because they can be used to hit internal targets and benchmark against others in the industry.
Days payable outstanding (DPO). This is the average number of days it takes the company to pay back its accounts payable. This number must strike a balance between paying vendors and ensuring they are satisfied and making sure there’s enough cash in the business. If it’s too high, it’s an indication that the business is paying supplier late, which could have a number of effects—to more expensive payment terms, and lower credit ratings. If this rate is too low, it can mean the business isn’t taking advantage of the credit terms. The ratio helps the business see how well it is managing cash flow.
To calculate DPO:
Calculate the Average Accounts Payable
Average Accounts Payable =
(Beginning Accounts Payable – Ending Accounts Payable for the Period) / 2
(Average Accounts Payable / Cost of Goods Sold) x Number of Days in the Accounting Period
If that number is 30, for instance, it means it’s taking the company on average 30 days to pay off its bills.
Cost to process each invoice. This is an important productivity metric. It includes all costs to AP of processing payments—people, operating expenses and supplier charges. Take that total and divide by the total number of invoices processed to get the average cost per invoice. APQC says the top performers spend $2.07 per invoice. Bottom performers spend more than $10 per invoice.
Top payment methods. Moving suppliers toward electronic payment methods can reap many benefits, but many businesses are still relying on checks. A recent Pymnts.com survey found that checks are still the most popular method used to pay suppliers—even though the AP department ranks them as their seventh favorite method of payment (ACH ranked first). Those surveyed ranked checks as the “least fast” payment method.
Payment errors. Payment errors can damage vendor relationships and affect credit terms. OpsDog says vendor payment error is a common mistake. Track vendor payment error by taking the number of outgoing payments processed by the AP department that contained an error (such as a wrong address, incorrect amount or duplicate payment) divided by the total number of transactions initiated over the same period of time.
Among those errors, another KPI to zero in on is duplicate payment rate. Data from benchmarking firm APQC shows that on average, even in organizations that perform the best when it comes to duplicate payments, 0.8% of annual disbursements are duplicate or erroneous. Bottom performers report more than twice that amount at 2%.
The percentage of duplicate invoice payments is calculated by taking the number of invoices paid more than once over a certain period of time and dividing it by the number of invoices paid over that time period.
Invoices processed per employee. Calculating how many invoices are processed per full-time employee per year is a great way to gauge productivity. A closely related metric is the average number of invoices processed per employee per day. This can give a detailed view into productivity and allow the business to dig into the reasons behind lapses This KPI will differ based on the industry in which the company operates.
E-invoices as a percentage of total invoices. E-invoices rely on EDI or XML formats or a web-based form. The EDI or XML files are sent directly from the supplier’s accounts receivable system into the buying company’s accounts payable system. This saves time because it requires no manual work on the AP department end, saves money associated with that work and is more secure. Walmart and Ford have mandated that all their suppliers move to EDI, but communicating the value to suppliers can be the biggest challenge.
Percentage of supplier discounts captured. Taking advantage of all vendor discounts offered on early payment terms may always make sense. It depends on the company’s cash position. On the other hand, capturing supplier discounts can yield significant benefits in cash savings and business credit. Data from the Institute of Finance and Management shows that 80% of suppliers are willing to exchange discounts for early payments. A closely related KPI, the percentage of invoices paid to terms provides a measure of whether the company is meeting supplier obligations.
Average time to approve an invoice. Getting invoice and payment approvals is consistently ranked as a top challenge for AP professionals. Pymnts.com says it takes approval from two to five people to process an invoice and 14.1 days. And research from Ardent Partners proves that more time spent on approvals does not always translate into more accurate payment, with 1/10 of payments on average being contested by suppliers.
Accounts payable expense as a percentage of revenue. While costs associated with AP are necessary operating expenses, monitoring the expense as a percentage of revenue provide information to make decisions about reducing manual processes and increasing or decreasing staff. OpsDog says this is calculated by taking total expense incurred by the accounts payable function divided by revenue over a period. While it doesn’t break out AP specifically, The 2019 Robert Half Benchmarking Accounting and Finance report put some numbers around the average size of finance function at small and midsized businesses. Businesses under $25 million in revenue employed a median of three people in the finance function. Between $25-$99 million employed six and between $100 million and $499 million employed 13.
Invoices processed per year. This number of invoices processed annually is necessary for calculating many other KPIs—including invoices processed per FTE as well as the cost per invoice. It’s a good indication of whether a company should be looking at software to further automate the process. But this number should also be looked at against how many suppliers the company is working with.
The KPI can be used to benchmark against peers in the industry and give a company a good indication of whether it’s working with too many suppliers (or not enough), each of which presents its own set of risks. Working with too many suppliers reduces visibility into the supply chain. On the other end, working with two few suppliers could present challenges when there are supply disruptions.
Percentage of invoices processed straight through. By looking at how many invoices could be matched with POs right away and paid without any manual intervention, companies can better fine-tune processes and manage by exceptions. In best-in-class companies, one study said that on average 71% of invoices can be processed straight through.
Invoice cycle time. Invoice cycle time or invoice lead time is how long it takes between the company receiving the invoice from a supplier and when payment is disbursed. A Canon study said average organizations take 13.5 days, while best-in-class take 3.3. Shortening this cycle can boost relationships with suppliers. Extended payment cycle times may hurt supplier relationships and signal productivity and work quality issues within the AP function.
Measure Your Accounts Payable KPIs
To learn and make business decisions from KPIs, the first step is getting the accurate data needed to perform the calculations.
Automating parts of the AP process that are the most error-prone makes collecting the data a lot easier. One of the first areas that organizations look to automate is the invoice process. Accounting software can extract the invoice data and automatically populate the fields in the accounts payable system. Workflows built in the software ensure the right people see the expense, can verify its legitimacy and approve it. That workflow can ensure the invoice is routed to AP to remit payment.
Reducing the amount of manual work to input invoice data and accomplish the process of approvals saves time and increases accuracy, but it also ensures that all of that data around the invoice is in a central location. Metrics on the number of invoices processed that month, the numbers needed to calculate average accounts payable and how many invoices were processed through without needing manual information can be surfaced with ease to perform more KPI calculations in spreadsheets or, ideally, see dashboards that surface set KPI data automatically calculated by the system.
How can AP Automation Improve Your KPIs?
- Cut costs to process invoices by automating entry
- Decrease DPO by speeding approvals
- Allow fewer employees to process more invoices, keeping costs of AP down as the business grows
- Enable invoices to be paid straight-through without manual intervention to allow the accounts payable department to manage by exception
- Automate payment to align with supplier discount terms to build strong relationships
- Increase accuracy to cut down on disputed invoices
- Decrease fraud risk and ensure regulatory compliance with roles and segregation of duties
- Move suppliers toward electronic payment methods and EDI to continue to gain efficiencies
KPIs help finance ask the right question and see the impact of process improvements. For instance, did an increase in e-invoicing drive down DPO? And did that result in more favorable payment terms from suppliers—such as discounts or longer payment terms so the business can hold on to cash? Tracking AP KPIs does much more than speed up invoice processing—but is a key strategy to boosting the company’s liquidity.