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Managing your debt

Research has suggested that 80% of small companies do not have any formal policy with regard to credit which they offer their customers. Poor debt management is one of the main reasons for business failure. Here we divulge the best ways for you to ensure that debt is managed efficiently so that your business remains liquid.

Awarding credit

Everyone who has a credit card will know that a credit limit is given. This is not something that is set indiscriminately but after careful investigation of the individuals’ circumstances. In today’s increasingly competitive commercial environment, firms will often find that if they do not offer credit facilities to customers they will not find people willing to do business with them.

However, for a business to offer credit terms to customers with no meaningful assessment of their ability or preparedness to pay, and on time, makes little sense and exposes the business to continuous cash-flow problems.

How much time and effort you spend on investigating the credit-worthiness of prospective customers depends largely on the financial importance of the deal concerned. In any case, a number of initial checks can be carried out:

  • If your prospective customer is a limited company, ask to see a copy of the latest accounts or access them through Companies House. This will reveal useful information on its performance and will help you to make a reasonable judgement on their liquidity.
  • Larger business have co-operated to develop a statement of best practice with respect to commercial transactions (BSI Standard on Prompt Payment – BS 7890). Adoption of this standard will provide comfort that it has given a public commitment to comply.
  • Credit agencies can provide status reports on any named business based on published information and will be able to recommend a credit rating and/or limit for the business concerned.
  • A prospective customer should be willing for you to approach his/her bank for assurance as to credit-worthiness. If possible, also try to obtain personal references from past or existing suppliers.
  • Personal visits can also be a good way to get a "feel" for the reliability of a prospective customer.
But bear in mind that this should not be a one-off exercise. Continual monitoring of all customers as to their credit-worthiness should be carried out.

Setting payment terms

It is essential for good debt management that each party agrees in advance how and when payment is to be made and that each side understands and accepts all the terms which apply to any sale. In particular, make sure that any discounts offered are communicated effectively, that any retention of title clause in the contract is expressed clearly together with any other specific contractual points.

On a day-to-day basis, delays in payment can be avoided if a few simple rules are followed:

  • Always ask for a written order from a customer. If you don’t they may deny placing it, or use this an excuse to delay payment.
  • Ensure that the small print on the customers’ order form complies with your own terms and resolve any differences in writing before processing the order.
  • Withhold further credit from customers who have exceeded their credit limit.
  • Always obtain and keep proof of delivery for all goods and services provided.
  • Always ensure that the details on your delivery notes and invoices are accurate.
Invoice quickly

Many small business often delay issuing invoices to customers. The price they pay for this inaction can be painfully high. The longer the delay, the longer it will be before you receive the cash. Also, customers tend to have short memories and a big delay will only increase the chances of them querying the quality of the product or service provided.

Give customers an invoice as soon as the product or service is provided and they will pay more quickly. Also you should be aware of their supplier payment policy. For example, many businesses pay suppliers at the end of the month following the one in which they receive the invoice. In this instance, make sure that they get your invoice on the last day of the month rather than the beginning of the following month. It could result in you being paid 30 days earlier than you would otherwise.

Collection

Remember that a sale is not a sale until the cash is received – it is a gift. The importance of collection cannot be overestimated, but perhaps it’s best summed up by Fagin in Oliver Twist who said that:

In this world, one thing counts.
In the bank…large amounts!

All sellers should keep records of the debts owed to them and the date in which they fall due. Although this sounds obvious, it can be overlooked. So a full list of payments due (preferably highlighting older debts so that chasing can be prioritised), is an essential tool for a business to protect itself against late payment.

Use this list to chase quickly and often. Once every week is about right. Start by using the telephone, but after the second phone reminder switch to using both the phone and letters, progressively sharpening the tone and content of the requests. But it is important to be aware of the commercial relationship surrounding that customer. It’s no good you making threats to cease trading with them when your sales team are negotiating a substantial piece of business with them.

Make sure that you keep a note of any "explanations" offered by customers when you are chasing the debt and make sure that you have sight of it when you ring again. Sometimes you can use the catalogue of carefully recorded excuses and broken promises to shame the customer into paying!

It’s also a good idea to send regular statements to customers to help them understand exactly what they owe. It is also worthwhile to bring any problem with unpaid debt to the attention of the person who actually requested the product or service rather than the accounts department of the organisation concerned. With their voice added to yours, payments will often be released more quickly.

Unfortunately, some customers will still not pay despite your best efforts at chasing them. In these cases, you may have no other option but to commence legal proceedings to recover your money. Where the amount is no more than £3,000 you can choose to take advantage of the special "small claim" procedures in the county courts. Debts of more than this amount can still follow a simplified procedure provided both parties agree. Small claims do not involve juries but are heard by a judge or registrar sitting alone. You do not need to be represented by a solicitor and should you decide to engage one, your costs may not be recoverable from the other party if you win your case. Guidance material for the small claims procedures will be available from your local county court.

Another factor

Whereas it was once considered to apply only to businesses with cash-flow difficulties, factoring has now been accepted as a useful way for many healthy businesses to crystallise the value of their debtors and utilise the expertise of a specialist debt management organisation.

Factors will typically lend you up to 80% of the value of your outstanding invoices. They will also, if you want them to, insure you against bad debts and even take over the running of your sales ledger and cash collection functions. Of course, the more you ask them to do, the more it will cost. They will normally charge two to three per cent above the base rate for the loan, up to half a per cent of your turnover if you simply want to borrow money and up to three per cent of turnover for the management of your entire credit control activity.

Whether it makes sense for your business to factor its debts depends on what other sources of finance are available, how much scope there is to improve debt management within your business and what you can do with the extra cash that factoring provides.

Remove the risk

Of course, if your business deals with the public then you can minimise the risk of bad debts and slow payment by insisting on payment through cash, cheques, credit cards (although commission of between two and four per cent is normally charged by the credit card company) or direct debit.

Even if you deal with commercial clients, it may still be worthwhile persuading smaller customers to pay using, for example, direct debit as often the cost of collecting a small debt outweighs the cash benefit to the business.

Conclusion

We hope that this brief guide will provoke some thought. It touches on a few of many ways in which your business can succeed. We would love the opportunity to put words into action. If you feel that your business needs help to improve its debt management then please contact us for further information.




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