Steve Harms

Wednesday, October 23, 2013

Credit Risk: how much can you stand?


Savvy credit managers know that new customers almost always pay for their first few orders in order to build up their reputation as good pay. But then the third or fourth credit extensions show signs of slipping. Payments slow to 30 days or so beyond your selling terms. Without careful monitoring and close follow up, your new customer can quickly become your new headache.
Appearances may deceiving. The trappings of wealth, including luxury cars, fancy offices, the latest and greatest of all gadgets and gizmos, sometimes signal that the customer is a poor risk, not a good one. Some folks just have to look successful, even when there’s no money in the till to pay bills. Your goal is to discern which customers are worthy of credit without being deceived by appearances.

Your biggest risks come from

                           *  New Accounts: Whether newly in business, or established business and simply new to you; and

                           *  Marginal accounts: Customers in some degree of financial instability, or start-ups with unknown finances.
Monitor risky accounts often –  really often – for any change in payment patterns and any red flag events, including their general attitude toward your business relationship, drops in orders, new management, or changes of address or phone numbers.

Be on guard for the customer who is always in a rush, the “We need it today” or “Please help us get this done over the weekend” customer. All too often, you will pour your body, soul and direct disproportionate company resources into that customer to make them look good, only to find they had no idea what they were doing. Next, you hear that you won’t get paid until they’re paid by their own customer, and their customer is upset. You’ve incurred bills of your own to pay for materials and owe overtime pay to your own employees, and now you may get nothing back.

When a customer introduces pandemonium to your business, avoid being set up by slowing down the process, and don’t make no exceptions to your credit policies (including a credit application, financials, and a full credit evaluation).

When you extend credit, the type of legal entity you are extending credit to is a key factor in the decision of how much credit to grant. There are huge differences between lending to an individual versus a corporation. Many business entities, including corporations, provide a significant shield against collections, allowing their owners or shareholders to avoid any personal responsibility for their unpaid debts.
For example, you’re about to start doing business with a famous, wealthy, well-respected person. Or should I say, that person’s newly formed corporation. Their wealth and fame leads you to extend considerable credit. The next thing you know, you find yourself down in the dumps when the corporation goes out of business leaving its debts unpaid, and the “respected” person behind the company has neither the responsibility nor the inclination to pay your bill. Famous people can fail in business, just like anybody else. Remember that over 90% of all new businesses fail in the first five years, and some of those are… er… were owned by successful and highly respected folks.

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