The Importance of Customer Credit Management
Late payment and payment default situations happen with alarming frequency – it’s critical to the financial health of your company to minimize them. Customers who fail to pay their invoices or drag their feet in paying can directly jeopardize the survival of your business.
Many businesses find it challenging to properly evaluate and track the creditworthiness of new customers. And when conducting business with foreign customers, customer risk management becomes even more complex because it can be difficult to interpret and rely on information used by foreign countries to measure creditworthiness.
Solving the challenge is a must: One in five business bankruptcies among SMEs occurs due to customers that default on their invoices. And though medium and large companies are better equipped to absorb a bad debt loss, non-payment events can still destroy their profit and spoil growth plans.
By employing effective credit management practices, you can help your business bring in the revenue it’s entitled to and ensure long-term business continuity.
Begin By Researching the Creditworthiness of Customers
We advise researching new customers when you start talking to find out as much as possible about the company you’re doing business with. Consider various information sources for your customer credit analysis, such as the local Chamber of Commerce and credit bureaus, bank and trade references, company 10K, etc. Even existing customers should undergo periodic reviews.
Contract Management Best Practices
When it comes to contracts, be sure to state in writing the delivery and payment conditions, and also discuss any provisions in the agreement. This is where you can indicate whether certain conditions apply and that you do not accept any other conditions. As a starting point, you can check with your trade association for the conditions typically used by your industry. Upon entering into the contract, we also advise asking a lawyer to review the conditions.
Also, verify that the person who signs for each receipt has the proper authority and ask for a company stamp on the receipt.
Accounts Receivable Collections Best Practices
When collecting accounts receivables, be sure that all key data appears on your invoice so it doesn’t hold up the payment. Here’s a rundown of the basics to include:
- Your company name, address and telephone number along with a contact name
- The right company name and address of your customer and the right customer contact person
- The nature and quantity of the goods or services
- The price in the appropriate currency
- The agreed-upon payment period
- Your bank account number
- Also print your terms on the back of the invoice
If payment has not already been received, calling customers right before or on the due date of an invoice can be handled by the accounting department or the sales department, depending on the relationship with each customer. This call confirms the products you delivered and that the invoice has been received. In addition to facilitating the payment process, this step also provides good customer service to make sure everything is OK. This step can also prevent late payments if your client is not satisfied with the delivery— while there’s still time to rectify the issue. You can even consider offering your customer a small discount if they pay by the due date.
Not all customers pay their bills within the agreed-upon payment period, so be sure to have an effective credit management strategy for late payments. In the event of late payments, call the customer and follow up with a written reminder that you are expecting payment within a reasonable time, such as one week.
If payment still does not come through, you can then send a warning and eventually a formal written notice. This typically asks for payment within two business days and presents a specific date by which the money must be received before legal proceedings will commence. Given the costs associated with late payments, also consider adding fees to account for collection and interest costs.
In the event that you enter into an agreement for a late payment schedule, put the terms of the agreement in writing and clearly note the following:
- The total amount due
- The payment periods
- The specific dates on which payments must be received
- Your bank account number and other routing information—if payments will be wired/transferred electronically
You should also monitor the customer’s progress. Are they complying with the rules? Is there any possibility they are on the verge of bankruptcy? Also, inform your credit rating agency. Late payments by your customer may have implications on your own creditworthiness.
Document and Evaluate Your Credit Management Process
Communicate your credit management process to other departments within the company to ensure the tasks and responsibilities of individuals in other departments are clear to everyone. In some cases, they may be able to play a key role in collecting invoice payments. Also set clear limits on required actions from other departments and make people accountable. Evaluate periodically as to how well your credit management process meets the needs of the organization.
Be sure to review each customer with a frequency that aligns with the perceived risk that the particular buyer presents and its potential for default. Be careful not to hold a bias because of personal relationships. Just because you have a good relationship with a customer, doesn’t mean they won’t default.
Set Ambitious Customer Credit Management Goals
The value of effective credit management is sometimes underestimated: Done well, it avoids unnecessary risks, creates opportunities for improvement, and frees up your company’s working capital for critical business investments. It thus makes sense to set ambitious goals and actions, measure your performance periodically, and apply change when necessary.
A few examples of objectives you can establish for strategic credit management:
- Identify the average Days Sales Outstanding in your industry.
- Lower your Days Sales Outstanding (average number of days invoices go unpaid) to X number of days within a given period (your findings from the objective above can help you determine a sensible benchmark).
- Reduce the number of bad debts and annual depreciation.
- Compare your results with those of industry peers.
- Maintain a healthy diversification of buyer portfolio.
As you put these tips and practices into use, keep in mind that credit management is not a one-off project. It’s a process you must keep working on all year. With success, you can accelerate invoice payments and help optimize the working capital your organization has to work with. This creates funds your company can invest in the future and proves the value of effective credit management to the entire organization.
Euler Hermes: A Trusted Partner In Customer Credit Management
Even a well-defined strategy can’t cover all risks. Credit insurance can help. Euler Hermes provides your company access to the most accurate information on customers, prospects, industries and countries. Our team of experts provides active monitoring on all accounts, a structure and discipline for credit decision making, resources for collections and payment when your insured customers fail to pay. Credit insurance takes the guesswork out of your company’s credit process, giving you the confidence to safely grow your business at home or abroad.
Learn more about trade credit insurance from Euler Hermes to supplement your customer credit management process.