A Complete Guide to Cash Application in O2C

11 December, 2019
15 min read
Timothy Fogarty, AVP, Digital Transformation
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What you'll learn

  • Cash application is a process of matching incoming payments with open invoices in the accounts receivable department, aimed at closing all such invoices in the ERP for which the customer has paid
  • The cash application process involves payments and remittance aggregation, invoice matching and deduction coding, and cash posting to the ERP
  • Businesses need to ensure that every payment is applied and reflected in the books as cash inflows, to optimize their working capital and increase AR

Listen to the blog:

9.47 mins
What is Cash Application?
Steps Involved in the Cash Application Process
Understanding the Objectives of the Cash Application Process
Why is Cash Application Important?
What are the Complexities Related to Cash Application?
How to Improve Cash Application Process: Introduction to Automated Cash Application
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What is Cash Application?

Cash application is a process of matching the incoming payments from customers with their respective open invoices. It involves matching incoming payments to the correct remittance information, invoices, and customer accounts so that amount from the remaining unpaid receivables can be deducted. For example, In a B2B environment, let’s say ABC Corp delivered its goods or services to Penta Corp last month. Since Penta Corp is a credit customer, the product was delivered along with an invoice (The invoice is the original bill that prompted the payments to be made), which Penta Corp must pay by the end of this month. This morning, Penta Corp sent a payment along with the remittance. A cash application specialist uses remittance advice to understand what invoices are being paid by the funds transferred from the buyer. Let’s dive deeper into the cash application process flow to understand how it works and the challenges involved in it.

Steps Involved in the Cash Application Process

Like other teams, the cash application team has fixed responsibilities based on specific internal controls set by the cash application leaders. A typical cash application process cycle involves the following steps:

Step 1: Payments and Remittances Aggregation

Payment from customers comes with remittance advice, indicating which invoice(s) the payment is for. Payments can be made through checks or electronic methods (such as ACH, credit cards, SEPA, BACS, etc), with remittances sent separately through email, EDI, or A/P portals. Remittance slips list invoice numbers, dates, and relevant information, including discounts taken by the customer.

Step 2: Invoice Matching and Deduction Coding

Cash application analysts match the payments with their open invoices to record the payment officially. This can be complicated, even with the remittance attached. A payment may cover multiple invoices or not match any invoice amount exactly due to short payments, discounts, or order issues, requiring further investigation by the accounts receivable team.

Step 3: Cash Posting to the ERP

Once invoice matching is done, cash is applied to the ERP, and open AR is closed. Without an integrated system, manual posting involves Excel and ERP, risking inefficiencies and errors. See how AI can help your cash application team to eliminate manual and erroneous remittance aggregation and fast-track cash accounting with minimal interventionSteps Involved in the Cash Application Process

Understanding the Objectives of the Cash Application Process

The cash application team has some specific goals:

  • Speed: The key objective is to apply cash as soon as possible, thereby reducing days sales outstanding (DSO) and allowing the company to use the cash at the earliest opportunity.
  • Accuracy: The analysts should also focus on cash application accuracy. Inaccurate cash application can lead to negative customer feedback and flaws in tracking the cash flow and working capital.
  • Standardization: For global enterprises, various global and regional payment methods and cash remittance file formats make it challenging to apply cash consistently across the organization.

Why is Cash Application Important?

Cash application might seem to be a back-office, excel-based process, but it has a vital upstream impact on working capital optimization. Today, for any CFO, working capital holds utmost importance; they need to answer questions like: what is my working capital at this moment?

Now the question arises, how does cash application management impact working capital? It’s simple! Faster cash application means lower accounts receivable turnover ratio, which leads to optimized working capital. This is why cash application needs to happen daily to ensure every payment is applied and reflected in the books as cash inflows.

What are the Complexities Related to Cash Application?

In most organizations, AR cash application is a manual-intensive task. The analysts are heavily dependent on excel sheets to perform their day-to-day cash application entry. The manual cash application activities lead to a loss in productivity and impact the overall cost aspect in AR. Now that we have understood the overview of cash application, let us analyze the challenges encountered in this process:
  • Lockbox Fees Leading to a Higher Cost of Doing Business:

    Bank lockbox services collate all the checks from a customer in a single place, reducing the check float time. Lockbox teams process every check and key-in the information in an electronic file shared with the cash application team. Lockbox key-in services are charged based on keystrokes. However, considering that they charge $1-3 per check, cash application becomes an expensive process. Moreover, sometimes the lockbox key-in data is incomplete, and analysts fill in the missing information manually by going through the scanned check images. Apart from the high lockbox key-in fees, it requires several man-hours to re-process a check processed by the lockbox services.
  • Manual Payment-Remittance Linking:

    For electronic payments, customers send cash remittances through emails, EDIs, or A/P portals. Cash application teams have to manually extract or download these remittances across sources in various file formats and map them to the incoming payments. As it’s a time-consuming task, it eats up cash application analyst’s efficiency.
  • Manual Invoice Matching and Exception Handling:

    Cash application analysts match invoices with payments based on the details present in the remittance, such as invoice numbers, purchase orders, or shipment details. Sometimes, remittances might contain incorrect or truncated invoice numbers, due to which analysts cannot match invoices with payments. In such scenarios, incoming payments are applied at an account level. In some cases, the customer misses out on sending remittance advice, and the cash application analyst has to reach out to the customer, asking for the missing remittance. Similar to this, a thousand other exceptions delay cash posting on a daily basis.
  • Short Payments and ERP Posting:

    Customers tend to make short payments for several reasons like trade promotions, early payment discounts, or disputed goods. While sending the remittance, they usually highlight the reason for the short payment. Cash application analysts have to manually identify the short payments and map the customer-specific reason codes to their ERP-specific reason codes. After this, they will be able to post cash to the ERP system. In several scenarios, companies use multiple ERP systems, be it SAP, JD Edwards, Microsoft, or legacy systems, each with unique configurations. Analysts need to handle exceptions or reconfigure the file before posting it to the ERP system.
  • Downstream Impact of Cash Application:

    One of the significant issues of slow cash application is the impact on other AR processes like credit and collections. For instance, if payments are not applied on the same day, a collector, unaware that the customer has already paid, might reach out to the customer again with an erroneous dunning notice. This leads to a poor customer experience.
Impact of Cash Application on other AR process

How to Improve Cash Application Process: Introduction to Automated Cash Application

Automation in Cash Application is becoming common these days. This is because cash application automation yields benefits such as reduced bank lockbox key-in fees, improved accuracy, and faster cash reconciliation.  Here are some more benefits of the automated cash application process: Benefits of automating cash application process Organizations have deployed advanced technologies such as RPA and AI in cash application to achieve straight-through cash posting rates of up to even 95%. AI capabilities help aggregate remittances from various sources, including emails, EDIs, and customer web portals, even with non-standardized remittance formats.  Optical Character Recognition(OCR) automation helps auto-extract check stub information with increased accuracy in case of checks. Apart from this, with AI-based invoice matching and deduction coding, cash application teams meet their goals of speed and accuracy. With automated cash application solutions, the leadership can access several out-of-the-box dashboards and reports to analyze the overall cash application rates globally. The analytics-based approach helps AR leaders to compare their cash application team’s performance with the industry’s cash application benchmark.


What are the elements of cash application?

Within the cash application process, there are three elements that the team deals with daily: 

  1. Payment
  2. Remittance advice
  3. Invoice

What is the role of the cash application team?

In a day in the life of a cash application analyst, their role is to aggregate payment and remittance, match it with the open invoice(s) and further, post the cash in the ERP.

Why is an invoice required for cash application?

The invoice is the original bill that prompted the payments to be made. Based on the invoice amount, a customer sends the payment to its supplier along with remittance advice. Further, the cash application team matches remittance with the invoice to post cash in the ERP.

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