1 Order to Cash (O2C) processes

Order to cash is the process of receiving the order from the customer, fulfilling that order by providing
the goods/services required and receiving payments from the customers for the goods/services
provided.

The cycle starts with making a sale to the customer followed by shipping across the products that the
customer has indicated to buy (order).

The outgoing materials are taken out of the seller’s inventory. Similarly, in case of services, it is verified
that the service were provided to the satisfaction of the customer as per the agreed terms. A payment
demand is then raised with the customer (invoicing).

The cycle ends with receiving the payment from the customers and recognizing the payment against the
respective account and invoice (accounts receivable and cash application).

The other parts of O2C cycle are collections, legal action (in case the customer does not pay),
reconciliation, control, audit and reporting.

Order to Cash cycle

2 Objectives of O2C Processes
From the organization’s standpoint, there are three major departments that hold a stake in the O2C
processes:

1. Sales
2. Credit
3. Order Management and invoicing
4. Accounts receivable
a. Cash application
b. Collections

2.1 Objectives of sales function

The sales function of a business comprises of its sales force and is responsible for selling the products
and services manufactured, created, provided by the business to its customers. They are also
responsible for developing and maintaining the sales channels like C&F agents, dealers, retailers, sales
alliance partners etc. The objectives of the sales function are as follows:

1. To sell the products and services to the company to its customers to help the company generate
revenues and profits, thereby contribute to the company’s profits and growth.
2. To meet the revenue targets of the company so that it can realize its profitability and strategic
goals.
3. To gather market intelligence and feedback through sales channels and customers directly, in
terms of changing customer preferences, their dissatisfaction with the company’s
product/service, any new moves by the competitors etc.
4. In a lot of businesses the sales force is also responsible for collecting the monies due from the
credit sales made to the customers.

In today’s business environment, a lot of sales happen on credit i.e. the buyer does not pay cash
immediately at the time of purchase but after some time. The time between the sale and actual
payment realized is called the credit period.

2.2 Objectives of credit function

The credit function is also cynically called as the ‘sales prevention’ department. The job of the credit
function is to decide whether a customer can buy goods/services on credit or not and if the credit can be
provided what will the terms of credit be (like credit period and limit).

The objectives of the credit function are as follows:

1. Review the eligibility of the customers for buying on credit, by assessing their ability to pay and
willingness to pay on time.
2. Determine the credit terms for the customer and communicate these to the customers and
sales force.
 3. Revise the credit terms for the customers on a continuous basis. The reasons that the credit
terms may need to be revised are:
a. The customers’ business may be growing and they may want better/liberal credit terms
to respond to the opportunities before them.
b. Competitors may suddenly offer better credit terms trying to lure the customers away.
c. The customer’s business may face adverse circumstances and may become less credit
worthy than it was earlier.
d. Credit policy is also dictated by the working capital position of the business itself and its
own sales strategy. If the working capital is not under pressure or the company wants to
promote its products by providing a more liberal credit then it may revise the credit
terms.

Usually credit function in an organization is in a conflict with the sales department and hence they
report to different managers within the organization. The credit function is usually part of the CFO’s
office.

2.3 Objectives of the Order management and invoicing function

The sales force usually received the purchase order from the customer and turns it over to the Order
management team for further processing.

Order management process has a lot of business significance and is one of the most audited processes
because this is where the revenues for the business are recognized. As a number of frauds and
management malpractices have come to light, the regulatory framework has also been tightened on
revenue recognition norms. Legislations like Sarbanes Oxley Act (2002) and accounting standards like US
GAAP and IFRS also prescribe strict guidelines on revenue recognition.

The objectives of the order management function are:

1. Receive the customer’s order and convert it into a sales order.

2. Communicate to production/delivery on the delivery schedules for the order (sales order may
be converted to a work order here).
3. Ensure proper fulfillment of the order.
4. Maintain proper documentation (the customer’s order along with the support documentation)
to enable proper revenue recognition.
5. Raise invoices (once the goods/services) have been delivered and send these invoices to the
customer through the agreed channels.

2.4 Objectives of the accounts receivable function

Accounts Receivable function is critical to the financial health of the business as it determines how
quickly the business can convert its goods and services into cash (cash conversion cycle) and channelize
it back into business.

Most of the CFOs of Fortune 500 companies have this metric as a part of their scorecard and monitor it
closely.
Within an organization ‘Accounts Receivable’ refers to a business department or division that is
responsible for invoicing the customers, getting payments from the customers against the invoices and
recognizing and reconciling the payments received from the customers against the outstanding dues or
the processes followed by this department to get payments.

The business objectives of the Accounts receivable process within an organization are:

1. Reduce order to cash cycle times and accelerate cash flow by reducing collection period.
2. Reduce bad debts by efficient and prompt collection
3. Prompt application of cash (recognizing the payments by the customers against their accounts).

2.5 Objectives of outsourcing the O2C process

‘Order to cash’ is one of the most common processes outsourced to third-party providers these days
albeit with suitable internal controls. The main reasons that the O2C process is outsourced are:

1. Efficient utilization of the working capital.

a. Reduce credit period by prompt collection
b. Reduce the bad debts
c. Proper application of cash
2. Better control and compliance: Standard controls can be defined across process and best
practices from similar processes (in different industries and geographies) can be leveraged for
better quality and control. With one outsourcing provider servicing all the geographies where
the business operates, the processes can be optimized and standardized to cut down the cycle
time and reduce inefficiencies in the process.
3. Lower processing costs and administrative resource requirements: The cost reduction is realized
by economies of scale and handling a higher volume of accounts receivable transactions from
fewer locations. The work done is standardized and repeatable and hence brings down the cost
of training and retaining manpower. The outsourcing agencies deploy better tools and
technology solutions for completing the transactions which enhances the productivity of the
employees doing and managing these activities.

These savings are further enhanced if the services are provided remotely from a low cost
location.

4. Best practices: A lot of service providers work in shared services kind of environment so they
can bring a lot of best practices of other customer accounts, geographies and industries into the
process.
5. To provide managers with more time to focus upon strategic issues: Client managers are able to
devote more time to expanding customer base, collect market intelligence and expanding into
new segments rather than spending time on collection of dues and application of cash.
6. Improve overall profitability: Overall profitability increases by prompt collection due to
reduction in bad debts and lower cost of capital.
3 Source documents and tools used in O2C process outsourcing
environment
3.1 Source documents
Source documents are the documents which contain source information on internal and external
commercial transactions done by a business. They are used to convert a commercial transaction into an
accounting transaction so that the organization can recognize the transaction in its book of accounts.

They are usually referred to in case there is any confusion, ambiguity, dispute about the transaction or
to verify and reconcile commercial and financial transactions within the business organization or
outside.

Some of the frequently used source documents in case of O2C processes are:

1. Purchase order
2. Sales order
3. Invoice
4. Goods received note
5. Credit Memo (or credit note)
6. Dunning letters
7. Legal notice

3.1.1 Purchase order

A purchase order is also referred to as a PO. A PO is a commercial document issued by a buyer to a
seller, indicating the type, quantities and agreed prices for products or services that the seller will
provide to the buyer. Sending a PO to a supplier constitutes a legal offer to buy products or services.
Acceptance of a PO by a seller usually forms a once-off contract between the buyer and seller so no
contract exists until the PO is accepted. POs also usually specify additional conditions such as terms of
payment and other commercial terms for liability and freight responsibility, and required delivery date.

A purchase order usually contains:

 PO number,
 issue date
 ID and address of the vendor
 delivery date,
 billing address,
 shipping address,
 terms of payment
 a list of services/products (including specifications and reference or part numbers of the items
to be purchased, with quantities and prices)

POs allow buyers to clearly communicate their intentions to sellers, and they protect sellers in the event
that a buyer refuses to pay for products/services that were delivered.
The significance of PO also lies in the fact that when the vendor presents an invoice for payment of the
goods and services provided, the PO is mentioned on the invoice. Since the party who is paying the
vendor (AP) is different from the one who placed the order, the PO becomes evidence that the order
was in fact placed. This becomes even more important in the outsourcing scenario, as the AP team,
which is paying the vendor, is not a part of the buying organization and needs a proof of the purchase
order to avoid making erroneous payments.

Types of Purchase orders (POs):

1. Standard Purchase order: They are most commonly used purchase orders. In this case the buyer
has all the details about what he/she is buying like quantity, price, delivery schedule etc..
2. Blanket Purchase Order: This is used when low cost items (e.g. stationery or low value
consumables) are purchased frequently. The PO is issued with a limit on the purchase amount.
Within that amount, the buyer can keep ordering material as frequently as required. When the
PO limit is exhausted a fresh PO is created.