A Discussion on Processing Debit Memos

Developed by the

PTDA Industry Relations Committee

Power Transmission Distributors Association 230 West Monroe Street, Suite 1410 Chicago, Illinois USA 60606-4703 www.ptda.org Phone: +1.312.516.2100 Fax: +1.312.516.2101 ptda@ptda.org

Copyright 2008. Power Transmission Distributors Association, Chicago, Illinois, USA. All rights reserved.

A Discussion on Processing Debit Memos

In the world of power transmission/motion control distribution, it would seem that the process of issuing debit memos and granting credits to reconcile those memos would seem straightforward. Distributors issue debit memos to manufacturers to seek a credit. The manufacturer reviews the debit memo and grants a credit on an outstanding invoice. All is good. A task force of the Industry Relations Committee of the Power Transmission Distributors Association (PTDA) discovered that, in practice, the process is much more complex. Distributors may or may not issue debit memos, instead opting to take a credit when making payment on an invoice. Manufacturers may be slow to process the debit memo, leaving the distributor with an unreconciled credit. In the Associations efforts to reduce the causes of friction between channel partners, the debit memo process was investigated. The following outlines the findings of the research and offers suggestions for improving the process. Why is a Debit Memo Needed? Although there are dozens of reasons why distributors issue debit memos, there are two general scenarios under which debit memos are issued: price or invoicing discrepancies and product returns. Price or Invoicing Discrepancies Pricing errors, incorrect delivery charges, discounts incorrectly applied, duplicate billing, incorrect service or late chargesall of these are reasons why a distributor may issue a debit memo. Its the distributors way of notifying the manufacturer that there is a disagreement that needs a financial resolution. In the case of issuing a debit memo due to a pricing discrepancy, the process should be more efficient because no product is involved. Distributors with a high volume of sales generally have a three-way match system in place (purchase order, order acknowledgement and advanced ship notice) that will flag any discrepancy in pricing throughout the system. For those distributors without this type of internal system, the discrepancy might not be noticed immediately in some cases, the discrepancy is found by chance. Returned Goods Incorrect product shipped, annual returns, defective or damaged productissuance of a debit memo is one step in the returned goods process. This process usually begins when a return goods request is made from a distributor to a supplier. The supplier issues an RGA
A Discussion on Processing Debit Memos
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(returned goods authorization) number that allows the manufacturer to track the return and triggers the debit memo process. Understanding the Issues The task force discovered that, while there are times when the debit memo process works smoothly, more often than not, there are issues that prevent a seamless process. Delay in Resolving a Debit Memo For a manufacturer, one of the advantages of selling through distribution is that the distributor takes on the credit risk. Distributors work with lower volume purchasers who may take full advantage (and then some) of credit terms offered by the distributor. Distributors maintain a delicate financial balance between what they owe their suppliers and what their customers owe them. One of the frequent complaints from distributors is that the debit memo process delays their ability to receive credit for pricing discrepancies or for returned product. In some cases, it can take up to 150 days for a debit memo to be resolved. Many distributors simply take the credit off the invoice because its in the manufacturers best financial interest to delay issuing a credit. Taking Unauthorized Credits For manufacturers, distributors who take credits against the invoice are jumping the gun. The manufacturer wants to be able to review a discrepancy or a return before authorizing the credit. For a pricing or invoicing discrepancy, it may take some time to track down where the discrepancy originated. Was the distributor quoted the wrong price by the salesperson? Was there a price increase that didnt get communicated to the distributor? Was the error a keying error by the accounting department when the transaction was entered in the database? If a distributor simply takes the credit, it becomes more difficult for a manufacturer to reconcile the problem once the invoice has been paid. In the case of returned goods, the debit memo allows the manufacturer to analyze the request before granting the authority to return the merchandise. The manufacturer can ensure the product being returned is marketable. Once materials are returned, a credit memo is issued to the distributor and the manufacturer closes the transaction. In addition to debit memos for pricing discrepancies and inventory returns, there may be times when distributors take credits against their expected annual rebates. In general, manufacturers wont

A Discussion on Processing Debit Memos

accept debits for rebates due. Manufacturers reserve the right to verify the amount of the rebate payment instead of distributors calculating the rebate amount based on their records and taking the credit against a product invoice. Size Matters The amount of business a distributor does with a manufacturer can play a role in how the distributor goes about requesting a credit. Those distributors that do large volumes of business may bypass the traditional process of debit memo review approval credit. Instead, the debit memo is issued with the payment of the invoice and the amount of the debit memo is deducted from the amount paid. Because of the volume of business a manufacturer gets from these distributors, the manufacturer will accept the revised payment amount. The manufacturer would rather accept the payment made (usually a significant amount) and negotiate the debit memo or issue a corrected invoice later to avoid a delay in receiving the payment altogether. Distributors with a low volume of sales dont have the same financial leverage as high volume distributors and must go through the traditional process and wait for a credit to be issued. Manufacturers of products that are in high demand also have an advantage in determining how a debit memo is resolved. Distributors want to receive product from these manufacturers. Having unresolved or short-paid invoices could cause a distributor to be placed on credit hold with manufacturers of popular products and delay delivery of the product. Improving the Process Because processing of debit memos involves the finances of both distributors and manufacturers, it is in the best interests of the channel partners to find ways to reduce or eliminate the costs of resolving these transactions. Based on interviews with several power transmission/motion control distributors and manufacturers, the following are offered as suggestions for improving the debit memo process: Communicate All Information to the Right Person While this may seem obvious, keeping open lines of communication in each step of a transaction is essential for a smooth process. In the case of debit memos, there are several stages where communications could break down. The distributor issuing the debit memo should communicate clearly to the manufacturer that a debit memo is being issued and the reason

A Discussion on Processing Debit Memos

for the debit memo. The distributor also needs to be sure to communicate this information to the right person. While the manufacturers sales rep may be the primary point of contact for the distributor, this may not be the right person to notify of a debit memo. As the manufacturer generally wants their sales person out in the market selling and not resolving accounting issues, it would benefit both the manufacturer and the distributor to appoint someone at the manufacturer to be the point person for resolving debit memo requests. Manufacturers may have a policy in place for returned goods. A well-constructed policy will indicate the point person for resolving issuesincluding a request for credit for returned items. PTDA has produced a template for creating an inventory returns policy that is available by download on the Associations Web site at www.ptda.org/InventoryReturns. Process Debit Memos in a Timely Manner Time and again, distributors mentioned that the delay in receiving credit was a major source of friction and the main reason why they take a credit against an invoice instead of following the traditional process. By establishing and communicating a timeline in which debit memos will be processed, manufacturers may be able to prevent distributors from circumventing the system. In particular, the timeline should include: Number of days after a debit memo is transmitted before the distributor receives paperwork approving a credit or returned goods authorization. Number of days in which paperwork from the manufacturer must be completed by the distributor and submitted back to the manufacturer. Number of days in which credit/payment is made after paperwork has been submitted. Submit Debit Memos Using Electronic Standards While a few of the companies interviewed noted that they use EDI transaction set 812 to communicate and resolve debit memos, most large distributors noted that they only use EDI with their largest suppliers and most manufacturers noted that small or mid-sized distributors dont use EDI at all. And, electronic resolution of debit memos is more likely to occur with returned goods than with price or invoice discrepancies as a returned goods credit may be more direct. Resolving a price or invoice discrepancy may involve more research into how the discrepancy occurred and there may be many ways to resolve the issue. The uniqueness of this type of transaction doesnt lend itself well to electronic formats.

A Discussion on Processing Debit Memos

A few companies indicated that an electronic format would be desirable if it can be demonstrated that adopting such a format would save time and takes cost out of the transaction. Conclusion While processing debit memos may not be the most critical transaction between a distributor and manufacturer, the financial cost as well as the amount of time required to properly resolve a debit memo can quickly eat into the profitability and trust in a distributor/manufacturer relationship. Communicating the issuance of a debit memo to the right person at the manufacturing company, a quick resolution on the part of the manufacturer and using electronic formats to process the debit memo are all ways to reduce the costs involved.

A Discussion on Processing Debit Memos

About the Power Transmission Distributors Association (PTDA) Founded in 1960, the Power Transmission Distributors Association (PTDA) is the leading association for the industrial power transmission/motion control (PT/MC) distribution channel. A U.S.-based trade association, PTDA represents 205 power transmission/motion control distribution firms that generate more than $10 billion in sales and span 3,500 locations in North America and 12 other countries. PTDA members also include 194 manufacturers that supply the PT/MC industry. PTDA is dedicated to providing exceptional networking, targeted education, relevant information and leading-edge business tools to help distributors and manufacturers meet marketplace demands competitively and profitably. For more information, visit www.ptda.org.

2008 PTDA Debit Memo Task Force Members Task Force Chair Lee Critchfield Bearing Service Inc. Douglas Hampton Orthman Conveying Systems Dane McElroy Canadian Bearings Ltd. Mike Power Lovejoy Inc. George Whittier Garlock Klozure

Power Transmission Distributors Association 230 West Monroe Street, Suite 1410 Chicago, Illinois USA 60606-4703 www.ptda.org Phone: +1.312.516.2100 Fax: +1.312.516.2101 ptda@ptda.org

A Discussion on Processing Debit Memos