Accurate management of your debtor’s book can help boost business growth and ensure financial success – but you must commit to keeping it up to date.
Healthy cash flow can help your business grow from strength to strength, but there are money management drawbacks that you will need to navigate regardless of the size of your business.
One of these potential challenges is credibly managing your debtor’s and creditor’s books – ensuring that everyone is paying (and paid) on time and that your cash flow is healthy and well maintained. The effects of cash flow challenges don’t only adversely impact small businesses, but can slow large businesses in their tracks if this vital system hasn’t been managed correctly.
If far too many customers owe your business money, you won’t have enough capital in-hand to buy supplies to create your product or pay your staff, or cover your overheads. Your once successful business can stall overnight if you aren’t handling your cash flow – specifically not managing your debtor’s book appropriately.
To avoid awkward money situations, have a sound debtor management strategy in place as part of your cash flow administration. Keep in mind that prevention is better than a cure in this case, as litigation to collect outstanding debt may cause further strain on already limited cash supplies.
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Here are some important aspects to consider when developing your business’ cash flow and debtor management strategies:
1. Have clearly defined parameters regarding payments
To keep your business running smoothly when it comes to finances, you need to present clearly defined payment parameters to your customers. The terms and conditions of sales, as well as the service that regulates the exchange between supplier and customer will need to be plainly set-out so that both you and your clients know what to expect and what you can/won’t tolerate when it comes to payments.
Carefully consider these parameters as they will need to comply with prevailing legislation, make good business sense, and be mutually beneficial to both your business and your customer. It can’t be unfairly one-sided in your favour, as this goes against the principles of the Consumer Protection Act (CPA) of 2008.
When creating parameters, you’ll need to carefully consider how these will effectively serve your target market as well as protect your own business’ cash flow. It’s advisable to involve legal counsel in this process to ensure your parameters meet current legislation. A custom payment guideline for your business will be better to use instead of applying a generic template from the Internet.
2. Know how risky your customer is before offering payment terms
Numerous businesses employ consultants to check on customers’ payment records and credit information before offering them credit. Be aware, though, that you will need your customers consent before you or a consultant investigates them.
Knowing who you are ‘dealing’ with is invaluable information and will help your business manage the risk associated with that customer. You can manage risks more appropriately if you know that they are slow payers. You can send early reminders or offer incentives and discounts for paying on time, and penalties for paying late. By managing your customers according to their payment types and avoiding those with too many flags against their names, you can reduce the risk to your cash flow and manage your debtors optimally.
To avoid an adverse credit bureau listing, you should also regularly check your own credit information. Otherwise you could have a black mark against your company’s name and be repelling potential customers while you don’t even know it. Ensure you manage your credit information regularly as this information can also adversely impact your ability to negotiate with investors and stakeholders.
Performing a credit check
Here is what you’ll need to collect from individual customers to perform a legal credit check:
- A signature confirming that they have read and understood all terms and conditions, and have agreed to abide by them.
- Accurate identification and contact details.
- Approval to conduct credit checks where necessary.
From a B2B customer, you need to collect the following:
- Comprehensive details of all directors, partners or owners.
- At least 3 trade credit references.
- Signature of the applicant to ensure they have read and understood all of your terms and conditions, and that they have agreed to abide by them.
According to the Consumer Protection Act (CPA) of 2008, you can’t turn customers away because they refuse to give you the above information, nor are they obligated to give you the information – but trustworthy parties won’t mind sharing info with each other.
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3. Protect your business by taking a deposit
Deposits are considered property belonging to a consumer, you’ll need to handle it with care and keep it separately according to the Consumer Protection Act of 2008. The amount you determine for your deposit should be carefully considered based on your industry, target market and with winning and keeping the consumers trust at the forefront of the decision.
Many businesses use deposits from clients to make the initial payment for inventory, and to fund the start of the order. According to the Consumer Protection Act of 2008, you are no longer legally allowed to do this, which means you’ll need to come up with another strategy to ensure compliance with the legislation.
Once you’ve navigated the CPA, you’ll need to position your business as a trusted leader in your market or customers might be hesitant to pre-pay for expensive goods from someone they’ve never used. To effectively manage your debtor’s book, you will need to strategically place your branding, legal and financial policies in such a way that it appeals to your consumer. This process should be conducted delicately, because how a client interacts with your company can determine if they become new customers, repeat customers or if they go to your competition.
4. Offer ‘COD’ only as the main payment option
Start-up businesses use the policy of cash-on-delivery (COD) in the beginning to ensure cash flow and that they get paid for their work. However, when a business grows larger it tends to have larger clients who negotiate terms depending on their payment cycles.
The challenge with this is they could have a payment cycle of 60 days and you have a payment cycle of 30 days, which means that for 30 days you’re going to be out of pocket with this particular client. This arrangement might not be feasible when trying to ensure the health of your cash flow.
You’ll need to determine the impact of clients’ payment cycles on your schedules and terms – will it have a positive or negative influence on your business’ cash flow? It’s recommended that you use both a financial and legal expert during this process to ensure your company is compliant and in a profitable, cash-flow-friendly position at all times.
5. Be proactive about managing your (financial) books
No matter how advanced your strategy is, if your credit control mechanisms aren’t on the ball with outstanding invoices, your business is still going to find cash flow challenging. The longer your credit controller leaves the payment, the harder it will be to collect that money.
This is why it’s important to have your credit controller, or you, proactively contacting customers with appropriate letters of payment or to enter into a formal and professionally drafted agreement. This will allow for a streamlined debt collection process, should you need to go to court to resolve costs.
The faster you send the invoice, the faster your client can settle their debt. This means you’ll need to invoice accurately, clearly and promptly. You’ll need to ensure that your invoicing system is up to standard, including all the correct information. Your team should send invoices as soon as the work is completed or goods delivered, instead of waiting until the end of the month (or the ‘billing period’).
If you wait, your customers could process someone else’s invoice before yours, which could potentially mean you’ll have to wait for the client to receive more income before they pay off your invoice.
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6. Offer credit to your (worthwhile) customers
Offering credit often can encourage customers to speed up or increase the amount of their spending. Some businesses have been known to offer credit to gain a competitive advantage in their market space. However, balancing the potential for increased sales with the risk of reduced cash flow is an important part of managing the risk in your business.
Ensure your clients are aware of your policies and credit limits when they are applying for your services to avoid misunderstandings or miscommunications. This will also put your relationship with your customer on the right foot, as they will be aware of how serious you are about your collection programme.
If your business is in a position to offer credit or the nature of your business is suitable to offering credit, then you should consider this option. However, if your business and size of transactions are not suitable, you may choose not to automatically offer credit to customers.
Before you decide to offer credit to your clients, consider the following:
Risks involved in offering credit
- Reduced cash flow: Offering credit to your customers may slow down their payments, which will reduce your ability to purchase replacement products from suppliers. Numerous businesses consider debtor finance to reduce this risk.
- Reduced profit margin: By funding credit sales, assess whether you are actually reducing your profit margin. Typically, this is only reflected in your profit and loss statement, so you need to keep it in mind when you’re pricing your products and services.
- Debt can grow: Unpaid debts can pose risks to your business, especially if you are exposed to large single transactions.
How to decide whether to offer credit or not
The following data should determine your final decision on whether you offer a client credit or not:
- References: They need solid evidence from other businesses saying what kind of business this is and how they pay their debts.
- Operating length: For businesses, how long they’ve been operating will also tell you how risky they are. If you have a start-up that has three impeccable references, but they’ve only been in business less than 6 months, you may want to tread cautiously still.
- Guarantees: You will need guarantees signed in-full before you ‘lend’ any business or individual resources.
Consider that this is a value-add for your business, offering a competitive advantage within your market. If it’s putting your company at more risk than it’s giving you an advantage, you may want to consider not offering credit.
7. Keep detailed records
The fastest way to lose control over who owes your business money, is not keeping a thorough record of who has paid what, who still owes you, and how much they still owe you. Using a good filing system to keep track of customers is vital to effectively manging your debtors.
By knowing at a glance where everyone is in their payment schedule, you can follow-up on overdue payments, control your cash flow and forecast your cash flow for the months ahead if there’s a large purchase you want to make. Financial software can help you ensure that your records are 100% up-to-date and that you’ll receive a notification when a client is behind on their payment or may need a subtle reminder to settle their debt.
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8. Manage your debtors
Manage your debtors like you would manage your employees. Devote more time to slower payers, offering incentives to get them to speed-up payment. Reward fast-payers with discounts and rewards.
Deal directly with the decision maker; you don’t want an endless email chain of back and forth, because you’re dealing with the middle man. Monitor collections like you would monitor deadlines and follow-up immediately if the payment schedule isn’t met.
If your client doesn’t pay on time, send 30, 60 and 90 day reminders. Insist on your trade terms being met. If you have a signed document saying that they agree to your terms and conditions, it will streamline the legal process you’d have to engage in if they don’t pay you on time.
Keep an eye on your customers’ businesses – are they growing sustainably? Are they having a challenging time? A growing customer could help your sales, but a rapidly growing client could also put pressure on your business and could increase risk.
Supporting a customer through a challenging time can create a solid relationship, which could keep them coming back to you for years. On the other hand, you don’t want to be keeping a customer afloat. If you can help them out and they’ve been good to you then you probably should, but always judge it on a case-by-case basis.
9. Handling difficult customers
Keep in mind that should you be in reversed situations, you would want business associates to give you the benefit of the doubt, but at the same time, if they’re being deceptive it’s probably time to let them go.
Look out for the warning signs when your customers are experiencing difficult times. Sometimes they are not easy to recognise. As an example, while your sales team might want to take credit for a sudden increase in customer orders, the ‘new-business’ could be because of other suppliers removing credit facilities.
If you aren’t being paid for your services or products, you need to stop supply. You can incorporate this into your credit system, and perhaps reach an understanding regarding payment for past supplies and conditions for new supplies. Even if they did just mismanage their cash flow, you still need to protect your business against future incidents.
If it reaches legal action, don’t put off sending professional demand letters. It could motivate them into settling their debt with you, which will allow you to avoid paying costly lawyers’ fees.
Things could potentially reach a point where you hire a professional debt collector and the situation goes to court to be settled. Remember, you can’t be too gentle about taking another business to court, especially if they owe you a large amount of cash.
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You don’t (always) have to write them off
It is, however, important that you have an honest conversation with your debtors about their difficulties in paying, and ensure that you obtain a firm commitment for an amount to be paid against the account. If possible, you should get this commitment in writing or write to them confirming their commitment. It’s always better to have something in writing in case matters lead to a legal dispute.
It doesn’t have to mean that you’ve written the client off, it could just mean that they mismanaged their cash flow and need some assistance until they’re up-and-running again. By sticking with them, you can develop a devoted client, but if you don’t see them recovering, you may have to cut bait and try new waters.
Effectively managing your debtor’s book will help your business achieve financial success. Improving cash flow and accounting systems and processes can speed up your business’ growth and allow you to become more profitable and competitive. But, by not giving your financial systems enough attention you could be setting your business up for cash flow challenges, reduced income and many outstanding invoices.