For various reasons, upon receiving a supplier’s invoice, customers might decide to remit less than the invoiced amount and withhold part of the payment. Those amounts withheld are called deductions. A supplier that doesn’t agree with deductions applied to an invoice will request clarification and may eventually create a claim requesting the reversal of the deduction and the repayment of the invoice. Those claims are routinely routed throughout the customer organization for due diligence and the process can take a huge toll on resources, on both sides. Although applying deductions is a common business practice, it is more widespread in the Retail industry and its distribution channels.
Deduction management can consume resources from both the customer organization (e.g., procurement, warehousing, inventory, stores’ employees, buyers, accounts payables, merchandising, and logistics) and the supplier organization (e.g., sales, marketing, customer service, credit, collections, accounts receivables, and distribution personnel) as all those involved are pulled in to research deduction inquiries, provide substantiating documentation, and assist with dispute resolution. Without a system to provide visibility and analytics, leadership may not easily perceive the extent of the effort required to track, research, and resolve claims.
There are many reasons for customers to apply deductions to suppliers’ invoices. Here are some key circumstances that can generate deductions and claims:
- Trade deals: Manufacturers and wholesalers need pricing flexibility to meet specific customers’ needs. They use trade promotions, discounts, coupons, markdowns, advertising chargebacks and approved returns as tools to persuade their retailers and consumers. The problem with such flexibility is that it creates complexity and can inadvertently lead to invoice errors. Issues can arise due to re-pricing of products, trade promotions not being executed according to the deal parameters, late discounts, or customer returns’ errors.
- Discrepancies between Invoice, Receipt and Order: These are usually referred to as 3-way or 2-way match variances between what customers are charged and what they expect to be charged. Issues will likely occur more frequently when a customer operates with a high number of disparate systems as it takes time for data to propagate. For example, when a new contract is negotiated, it might take some time to see the new pricing and payment terms in all relevant systems, which might lead to “in-flight” Purchase Orders with obsolete information. In addition, human errors, such as suppliers not including a valid Purchase Order number on their invoices, or customers receiving items against an incorrect vendor code, will certainly create discrepancies during invoice reconciliation.
- Quality problems: Damaged packaging, defects, and spoiled products may lead to deductions.
- Distribution and shipping discrepancies: These can be caused by count errors when receiving the product, shortages, packaging that’s different from what was ordered, unpaid or over allowance freight, non-compliant carriers, late delivery, and by not adhering to handling and shipping specifications.
- Other triggers: Customers may apply penalty charges for any number of reasons including errors in tax calculations, over allowance charges, warehouse and shelf space chargeback fees, etc. Excessive amounts deducted on otherwise legitimate deductions are considered here as well, including when items are returned at a higher price than purchase, when incorrect quantities are charged back, etc.
As you can imagine, with so many variables, suppliers can have a really hard time trying to figure out the reason for deductions. Lingering inquiries and unresolved disputes over deductions can generate friction between the parties and sour the commercial relationship. To make matters worse, the deduction resolution process is usually manual and paper based, with everyone involved relying on the exchange of mountains of documents, emails and calls to research issues, making backup copies of documents, and spending an unnecessary amount of time to organize all the data. Claims are manually triaged and routed to appropriate departments for further manual reassignment. The fact that those claims aren’t entered in one single platform prevents visibility (both internally and externally) into claim status and research history, which creates a situation where vendors might send multiple emails/inquiries just to find out where a claim stands in the process. In addition to those pain points, companies might not have an accurate measurement of their financial exposure due to open claims liability.
With no traceability, no accountability, and no timely status communication and resolution, suppliers might sure feel like their claims go into a “black hole”. An undesirable consequence of increased supplier abrasion is the occurrence of credit holds, the erosion of the company’s negotiating power, and the threat of suppliers placing orders on hold due to outstanding disputes. In the latter case, customer’ stores service levels may become directly impacted. Diminished leverage during negotiations can impair a company’s ability to effectively negotiate advantageous rebates, allowances, trade funds, terms and other promotions. To complicate things even further, suppliers might want to impose a settlement payment before agreeing to negotiate a new deal.
All this struggling can be observed in many companies as they try to compensate for the lack of a central system and process to manage deductions, claims, and repayments. However, any effort to achieve effective deduction management requires executive support, and to secure that support one needs to clearly articulate and quantify the problem and its possible adverse implications.
Companies can take control of the deduction management challenge by tackling it with the right processes, people, and tools. Fostering transparency, open communication, and facilitating collaboration with suppliers is key to success.
By Renata Taveira
