Why Deduction Thresholds Do Not Work

February 8, 2016

Many CPG suppliers implement deduction thresholds when applying cash from a retailer. These thresholds are designed to speed the process by allowing minor deductions (i.e. under $75) to be ignored while larger deductions are scrutinized.

We see it almost every day—accounting teams working to streamline operations implement deduction (or chargeback) thresholds to reduce the amount of research time spent on issues that are considered ‘too small to worry about. These thresholds are the result of large retailers issuing chargebacks and fines for a variety of issues.

But, the accounting team is trained to write-off anything under a certain threshold (let’s say $75 for this example) with the assumption that anything less isn’t worth the time to investigate.

While the assumption seems logical, the reality is that these deductions quickly add up. Some research even suggests that it can add up to 2 percent of overall revenue. So if you’re not watching them closely, it’s a difficult issue to solve.

The key is to not try and solve them individually, but instead begin to categorize write-offs by customer and type. That way when you look at these write-offs over time trends begin to emerge.

Here are three real examples where we helped companies solve this exact challenge.

1. One customer realized that each time they shipped product to a customer via UPS or FedEx, the customer never paid for the shipping charge. After some research, they realized they forgot to include the shipping charges on the EDI 810 invoice and were giving the customer free shipping on every invoice. In the end it was a simple EDI mapping change that ended up saving them many thousands of dollars.

2. Another client offered a 5 percent advertising discount to a large retailer. However, when they invoiced the retailer they simply reduced the prices by 5 percent instead of showing the discount separately on the EDI 810 invoice. The retailer’s system accepted the lower prices, but then took an additional 5 percent deduction for the missing discount it was programmed to expect. The client was now giving them a 10 percent advertising discount without evening knowing it. Again, it was a simple mapping problem costing them 5 percent of the revenue for that customer. After correcting the handling of discounts on the invoice, the issue disappeared.

3. Finally, a third client thought they were validating the retailer’s price on the purchase order (850) to their internal price. Later they found that when there was a discrepancy, the customer service team simply used the internal price (which was usually higher). When they invoiced the retailer, the retailer’s system expected a lower price and paid the invoice short. Each and every invoice had a discrepancy and since they were writing off these small issues, it ended up costing the company nearly 1 percent of their revenue. By implementing a process to review pricing discrepancies before the order was accepted, they reduced these issues dramatically.

Without categorizing these deductions by customer and by type, and then putting the tools and processes in place to examine them, your accounting team could be writing off $75 more often than you think. Check your own deduction thresholds. Validate the processes that were put in place many years ago are still working today.

Want to reduce your chance of costly chargebacks? Contact us to learn more.