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Credit Crunch
By: Gene Siciliano, CMC, CPA
Issue: 2009apr
Crack down on late-paying customers and keep your business on track with these five tips.
Your business was running pretty smoothly. Sales were growing, profits too. And then the credit crunch hit, someone said the “R” word and everything started slowing down almost overnight. Most troubling of all, your customers have been paying later and later, as if they are using your money to build up their own personal recession-proof cache.
Well, they probably are.
Most of us don’t realize how dependent we are on credit to run our businesses. Vendor-open account credit—the kind you extend to customers—is by far the largest source of borrowing power in our economy. When you sell products and services on credit, you are making interest-free loans to customers, even if those loans are financed with borrowed funds on which you pay interest every month. When collections roll in on time, it all works out nicely. But, when collection slows down, you still need to replace goods sold, compensate workers (on time) and pay rent and other operating costs.
Assuming your bank-credit lines are in place and the margins are adequate, you have a bit higher interest expense and can ride it out with your customers. However, if credit lines or cash reserves aren’t sufficient to cushion you from sudden changes in cash flow, your business could be in big trouble. Besides, most bad debt write-offs come from old balances, not current ones. The older the balance, the less likely you are to collect.
So, the best bet is to encourage customers to pay on time. No added interest expenses, no customer hassles, no write-offs and everyone is happy. You are probably thinking, “That sounds good. How do I do that exactly?” Here are five ideas that can work.
Improved Credit-Granting Practices
On the front end, screen new customers more closely before granting a credit line. Spend a few dollars actually getting a credit report and a few minutes calling their credit references to get a sense of the relationship they have with your potential customer. The conversation might go to their payment patterns when the economy slows, which could vary from good times. A comment that “they sometimes struggle to keep current but always manage to get caught up” could be a red flag these days. Also, be watchful of prospects who frequently change suppliers for the same type of product, and if you can learn the name of their previous supplier, that’s someone you want to talk to as well.
Committed Collection Effort
Make collection follow-up a key duty of at least one person in your company. Don’t make the mistake of giving the job to your controller to handle in his or her spare time, just because accounting handles the money. He or she likely doesn’t have any spare time. And besides, accounting personnel are not typically the best at customer communication, especially if the subject is touchy. Assign the job to someone who is a good negotiator, who has an amiable but firm phone personality and who understands this is a key job.
Most important, do what you say you will. If you promise something in return for prompt payment, make sure to deliver. If you say you must deny future shipments until an account is brought current, stick to it—every time.
Key point: If your collection practices have been lax in the past, a culture change may be needed to convince your customers, who may be tempted to wait you out and see how long the new rules stick around.
Call Ahead
Have a collection person phone the customer’s accounts payable department a few days before the payment’s due date—call it a courtesy for the customer—to make sure everything is in order, there are no problems with the paperwork and the check will go out on time. This little reminder, when positioned with friendliness and a desire to help, can make a friend of the person who actually cuts the check. But if a customer lacks something he or she needs in order to pay, your effort to quickly provide it and help them avoid having to run it down themselves could put you at the head of the payment line.
Prompt Payment Discounts
This is an old technique that worked well years ago, but has fallen into neglect in recent years as business practices evolved. The old “2/10 net 30” was, and still is, a fantastic deal if explained to customers clearly. Consider this: a two-percent discount for paying 20 days earlier than normal amounts to a 36 percent return annually; not a bad yield for a customer whose savings account probably earns two percent a year. Even if your customers planned to pay in 45 days, getting them to pay in 15 days instead represents an annual return to them of 24 percent. You can juggle the numbers any way that makes sense in your industry, but the key is getting the customer to understand the value they get from paying promptly. And by the way, if you do business with certain organizations, e.g., local governments, many of them are required by their policies to take advantage of such discounts.
Key point: You must be strict about charging back discounts taken when payments don’t come in on time, as some customers will try.
Preferred Customer Plans
Want to think out of the box? Consider a special program for special customers—free overnight delivery on rush orders, extra discounts, advance notice of price changes, special sales, etc. Promote this as a customer benefit and make it available only under certain conditions, one being consistent payment in accordance with your terms. Don’t make sheer order volume a condition if your low-volume customers produce higher margins, as is often the case. A small invoice that gets paid on time is a blessing compared to a large one that takes 90 days to come in. Still, make the conditions list beefy enough that it doesn’t look like a poorly disguised collection program. Use it as an opportunity to reward the customers you enjoy doing business with, especially those who pay on time, every time.
Key point: Avoid the risk of alienating customers who are in the program but then fall behind in one or more criteria. Give them the opportunity to rejoin the program after two or three months of meeting all participatory conditions.
You can appreciate your customers’ dilemmas in trying to stretch their cash. But that’s not the same as agreeing to be their banker—interest free. You can extend their payment terms, as many companies do at times like these, but in the end you still need to collect by a date you can plan on. And you need to avoid alienating customers in the process. If you deliver on your promises—quality products, competitive price, prompt delivery, etc.—then it’s reasonable to expect your customers to do everything they agreed to, including prompt payment.
Gene Siciliano, CMC, CPA, is a financial consultant who works with CEOs and managers to achieve greater financial success in an ever-changing economy. He is also a speaker and author of Finance for Non-Financial Managers (McGraw-Hill, 2003). As Your CFO For Rent® and president of Western Management Associates, Siciliano has spent more than 20 years helping clients build financial strength and shareholder value through applied knowledge and process improvement.
gene@CFOforRent.com
www.GeneSiciliano.com
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