The importance of credit control

Late and non-payment of bills can create major cashflow problems for fast-growth companies. As a business increases its customer-base, managing invoices inevitably becomes more time-consuming and complex. If you have a handful of customers on your books, chasing payment may require a certain amount of diplomacy, but it won’t eat up too much management time. Indeed, following up on non-paid invoices is often done on an ad hoc basis. With 10, 20 or 100 customers it’s a different matter. Amid all the other pressures facing rapidly expanding businesses, it’s easy to lose track of who has paid and who hasn’t. And before you know it you find the money coming in isn’t enough to cover bills and payroll. It’s a classic trap, but it can be avoided by implementing effective credit control measures.

Are your customers creditworthy?

Businesses that invoice their customers, rather than operating on a cash-on-delivery basis, are effectively extending credit. As such, one of the key elements of credit control is carrying out checks to ensure new customers are creditworthy. There are a number of ways in which to do this. You can ask the prospective customer for references from existing suppliers. In the first instance, these testimonials will generally be supplied in writing, so it’s worth making a follow-up call to the companies concerned. This will give you the opportunity to ask your own questions while also checking the veracity of the written responses. In addition, you can ask the customer for a bank reference. You may also be able to obtain information from your own network of business contacts, some of whom may well have supplied your prospective customer already.

For a completely independent view, credit reference agencies will supply creditworthiness reports for a relatively modest sum, usually less than £50 per check, and doing this online provides rapid results. However, checks of this kind won’t always give you definitive answers as to whether you should extend credit to a new customer. Once you have the information, it’s up to you to weigh the value of the orders against any risks identified by the checks. Your assessment of the risk will enable you to decide a limit on credit. For instance, you may decide a customer should have no more than £5,000 worth of goods or services in the pipeline at any one time.

Setting the rules

In an ideal world, once you agree to do business with a customer, the invoice/payment provisions should be on your terms. In practice, negotiations on payment tend to reflect the balance of power between supplier and customer. If the customer is a large company placing a major order then it will be in a strong position to dictate terms. In practice that can mean your company will be paid in 60 or 90 days rather than within 30. However, you should always aim to agree the smallest possible number of debtor days, with 30 days after receipt of the invoice being a good starting point. If appropriate, you can build incentives into the agreement, including discounts or rebates for early payment.

Procedures

Agreeing payment terms is one thing, policing that agreement is quite another. If a single customer agrees to pay a bill within 60 days, but habitually stretches that to 70, you may not have too much of a problem. But if half a dozen customers do the same then you’re heading for trouble. It’s therefore important to ensure consistent chasing of debts, although this can be a problem area. If the MD or founder is the one who calls the customer and asks for payment, the chances are that debt-chasing is only done when payment is very late and/or when the MD has time.

The answer is to devise proper credit control procedures. Whoever is charged with credit control should know when invoices are sent and when payment is due on each of them. Equally important, policies should be put in place to determine when a call is made to chase the cheque. A reminder call on the day the cheque is due is favoured by many businesses.

Knowledge of the customer is important here. Each customer will have their own rules and procedures and as a supplier you should know key dates such as when the client does their cheque runs (sometimes just one or two a month) and its internal deadlines for receiving invoices. For instance, if it is agreed that an invoice sent in June will be paid in July, you should know if there is a June cut-off date that could push payment back a further month.

Establishing a formalised credit control regime is about more than ensuring cheques arrive on time, it also provides a means to identify any mounting problems. For instance, a customer that begins to pay a little later than usual on a regular basis may be experiencing financial difficulties and further checks may be necessary.

Outsourced solutions

Credit control can be resource-hungry. If responsibility for credit control is allocated to an individual, the management of invoices and receipts will undoubtedly eat into time that could be better spent doing other things. And if the scale of the job gets to the point where credit control warrants a dedicated employee (part-time or full-time) there are payroll cost implications.

Credit control can be outsourced, either to specialised debt collection agencies or as part of a factoring facility. Under a factoring arrangement, a bank or specialist will advance you an agreed percentage of money owed by specified customers as soon as the relevant invoices are raised. This directly addresses the cashflow issues associated with waiting for payment. Factors also take responsibility for the collection of the debt, effectively freeing up your resources. The potential downside is that you lose some contact with customers in a key and sensitive area of your business relationship. The alternative is invoice discounting, whereby money is advanced on invoices but credit control stays in-house.

Early-stage companies tend to overlook credit control and the habit can linger long after the business moves into the big leagues. However, credit control remains a crucial issue at every stage of a business, as nothing will kill a healthy company quicker than poor cashflow management.