Key elements of a good credit management strategy

| November 15, 2019

Extending credit to customers can be a great way to increase the amount they buy, and contribute to develop strong relationships with them. However, if an organisation’s credit management process is inadequate, business leaders could find some customers are paying late or not at all, potentially impacting the company’s bottom line, according to Atradius.

Mark Hoppe, managing director, Oceania, Atradius, said it’s important for businesses to be aware of the true cost of a bad debt.

“For example, a $100,000 bad debt on a 10 per cent profit margin will require $1 million in new sales just to get the business back to its original position before the loss. This can be devastating for many businesses.”

With some customers, the risk of non-payment is relatively low and the benefit of offering credit is strong. However, even with customers who have a long history of paying in full and on time, there is always a risk that the next invoice is the one that doesn’t get paid. This can be due to external factors outside of the customer’s control; perhaps one of their customers hasn’t paid them or they cannot secure funding, or there are political interventions that have created a cash flow issue.

The key is to manage the risk with a strong credit management strategy. Atradius has identified the five key elements of a good credit management strategy:

1. Credit rating assessment. Business leaders need to decide what level of risk the organisation is willing to accept, then set conditions accordingly. It’s advisable to check the customer’s credit rating before extending them credit. A poor credit rating could be all the information business leaders need to avoid extending credit and, instead, insist on cash on delivery or decide not to do business with them. If a customer’s credit rating meets the organisation’s pre-defined conditions, then business leaders can consider proceeding to a contract, which should include elements including the exit period should the organisation wish to cease trading.

2. Monitoring. It’s important to monitor customers constantly, since conditions can change without warning. When organisations are extending credit, monitoring efforts should include obtaining the customers financials on a regular basis so business leaders can determine whether they still meet the company’s conditions. If customers don’t meet these conditions, a strong credit management strategy would dictate that the organisation cease trading with the customer.

3. Invoicing. For customers to pay invoices promptly, organisations need to issue those invoices promptly and follow up non-payment just as promptly. This sets the expectation with the customer and also minimises the days outstanding for payments due. It’s also important to make sure the company’s bookkeeping system is up to date to ensure business leaders are well aware of which customers are paying on time and which customers have failed to pay. This lets business leaders follow up appropriately.

4. Customer management. A powerful customer relationship management (CRM) system can help business leaders control the timing of payment reminders and manage other customer communication more effectively.

5. Risk mitigation. Trade credit insurance can help mitigate the risk of non-payment by protecting the organisation’s account receivables. If customers don’t pay, the insurer covers up to 90 per cent of the outstanding amount, so the company’s cash flow remains unaffected.

Mark Hoppe said the potential ramifications of non-payment by a customer can be catastrophic.

“However, with trade credit insurance, organisations will still get paid so any new sales will contribute to real growth, not just clawing back losses from a bad debt.

“Businesses should think of credit insurance as a way to safely grow their business, because it lets them test new markets, new buyers, and even extend more credit to existing customers. We have seen businesses grow by anywhere between $2 million and $30 million over the course of several years because they’ve had the confidence to take on new contracts and encourage growth because they were protected from payment default.”

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