How Can We Avoid the Traps in Managing Customer Credit? (Part 1 of 2 Parts)

By Joel Block

This article is the fourth in a series by my colleague and friend Eric Shaw of http://www.nycreditinc.com. Eric is one of the top credit analysts in the market. I regularly go to Eric to help me analyze client issues and for assistance in making a variety of business decisions. Not to mention, Eric is a rock star when it comes to networking. He has a lot to offer and I would like to bring it to my readers over the next several weeks. This article will be continued next week:

Beginning of Contributor Notes:

It is always tempting to sell to a customer who promises to pay promptly. Unfortunately, even so- called "good" customers delay payment-and some default-on trade credit. The unpredictable nature of today's business climate wreaks havoc on the finances of even the best-run businesses.

It is possible, however, for sellers to protect themselves from customer credit problems. It just requires a bit more work than was the case in earlier years.

Rule of thumb: Customer credit has two basic components...

Assessing risk, which involves checking the credit status of a customer to decide whether to extend credit in the first place.

Guaranteeing payment from the customer-when and if the decision to extend credit is made.

RISK-ASSESSMENT TOOLS These days, companies need more than the standard three trade references and one bank reference to verify a customer's credit. If a customer is pressing for a credit limit that seems high, ask for the following...

Bank statements from the last three months. These statements will reveal a complete quarterly picture of the company's cash flow, detailing cash in (deposits) and cash out (disbursements). They will also provide a snapshot of the company's average balance cycle-the times during the month when the company has its highest and lowest balances, and its largest check written within the last 90 days. It will also indicate whether the company's credit request is out of line with other bills it has incurred. Bank statements will also reveal whether there were any NSF (not sufficient funds) checks, and whether the bank covered them.

Important: Even if the bank did help the customer pay a bill, NSF checks should be a red flag that indicates a company can't manage on its current cash flow.

In addition, bank statements can provide information about a customer's operations that might not be found elsewhere.

Example: A customer requested a $20,000 credit limit and we were inclined to grant it. But the bank statements revealed that the customer had never written a check for more than $6,000, and its checking account balance was only $5,000. So we decided we needed a financial statement before making a decision.

Other options in such an instance: Insist on a cashier's check (which segregates and protects your payment from other checks drawn on the customer's account)...or ask the risky customer to pay for merchandise up front and ship the goods after the check clears.

Financial statements. These documents are more accessible than many people realize. One easy way to get hold of such statements is to include a box to be checked off next to a line that reads, "Financial statement available upon request," on your company's credit application form.

If this box is checked, you know the statements are available. But even if the box isn't checked, don't give up. If large orders-over $20,000, for example-are involved, you can press the customer to provide them.

Make sure that the financial statement provided is current. Ask for the most recent year-end statement. If it is more than eight months old, also ask for the most recent quarterly statement. That way, you will be able to track trends, such as a slowdown in accounts payable...increases in bank debt... unusual fluctuations in expenses.

* * * End of Contributor Comments * * *

Joel's thoughts:

1. Most of us are not trained in assessing risks - especially when it comes to extending credit. Bad decisions here will come back to haunt you. Your company's liquidity will determine the amount of credit that you can safely extend. Look at the car companies. New money from the government is making it possible for GMAC to make more loans and extend more credit.

2. During these difficult times when companies are restricting the amount of credit that they offer (see: http://tinyurl.com/demt9t), be careful so that you aren't burned. And,

3. If you want help in the area of credit, don't hesitate to call on Eric Shaw.

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About Joel G. Block

Often dubbed a "Growth Architect" by his clients, Joel Block advises companies on explosive growth strategies by driving revenue and sales. Well known in the capital markets, Joel is a successful entrepreneur, speaker, advisor and faculty member of the iLearningGlobal community. To bring Joel into your company, please visit http://www.joelblock.com or http://www.growth-logic.com. Also, be sure to check out our newest project: a blog to organize the blogs that cover entrepreneurship - http://www.entrepreneur-hub.com. And finally, for film makers: http://www.filmfundingblog.com - our newest project.

Joel Block
newsletters@joelblock.com

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