Effective Ways of Managing Credit in Business
Credit management is often a juggling game. You want to make sure your debtors pay you on time but on the other hand, you don’t want to ruin relationships by continuously chasing them for payments or using the wrong methods to do this. It can sometimes become a vicious cycle whereby your debtors’ inability to pay you on time can lead to your inability to pay creditors promptly.
Exactly how do you do that?
While it’s important to be clear to your customers about the need for timely payment, it’s just as important to make sure you don’t do this in an aggressive way that will deter them from doing business with you again.
So, you need to define your credit management strategy and answer the questions: why you need to do this and how you’ll do it. Below is a guide on how to make sure your business is on the road to prompt payment:
Proper management of your debtors will help you get paid faster and prevent bad debts. Maintaining a prompt collection of debtors’ accounts will also help you maintain healthy cash flow, thus avoiding being caught up in debt traps…
How can you get caught up in such a trap?
Offering too much credit or poor management of debtors could lead you to experience a negative cash flow, creating the need to borrow money to reverse the situation. In future, the debt becomes difficult or impossible to pay, typically because the credited customers and the high-interest payments prevent repayment of the principle.
While offering credit to your customers by supplying goods and services to be paid later is one way of increasing sales, it has a negative impact on your cash flow. You will be forced to wait for the payment, which consequently affects the operation of your business should the finances be critical.
Credit management is the management of debtors and involves:
- Collecting debts on time
- Considering debtor finance
- Enforcing a clear credit policy
- Making credit applications and credit checks
- Setting credit limits and payment terms
Debt management also involves keeping debtor records which is a legal tax requirement. Besides, there are laws governing how you follow up debts.
This guide explains how to manage debtors for your business:
- Offering credit and managing risk
Offering credit often encourages customers to speed up or increase the amount of their spending. Some businesses offer credit to gain a competitive advantage in the market. Balancing the potential for increased sales with the risk of reduced cash flow is an integral part of managing risk in your business.
Depending on the nature of your business and size of transactions, you may choose not to offer credit to new customers automatically. Before providing credit, you have to consider the risks involved.
- Perform a credit check
This is one effective way of managing the risk of bad debt. Before you offer a customer credit, have them complete or sign a credit application form or agreement.
What do you collect from individual customers?
- Approval to conduct a credit check where necessary
- Identification and contact details
- A signature, confirming they have read and understood all terms and conditions and have agreed to abide by them.
What do you collect from business customers?
- Signature of the applicant to ensure they have read and understood all the terms and conditions and have agreed to abide by them
- Comprehensive details of all directors, partners or owners
- At least three credit references
2.Decide whether to offer credit
The final decision to offer credit should be based on all the data collected, in particular:
- Guarantees signed in full
- The references
- For business, the length of time they have been operating, giving a completed credit application
You should have a policy about how your business customers can authorize other people from their businesses to use their company’s credit.
3.Provide a prompt written response
After receiving a completed credit application, provide a prompt written response approving credit, declining credit or requesting further information. The response should specify:
- Any other terms and conditions
- Penalty and default terms
- Amount of credit given
- Credit terms
- Guarantors, including guarantee forms
4.Keeping records of debtors
Use a good filing system to keep track of customers who owe you money. This will help you follow up on overdue payments and control your cash flow
5.Setting payment terms
Sending a clear message to customers about when and how you expect to be paid will help you manage cash flow and maintain good customer relationships; Setting your customers’ terms shorter than your suppliers’ terms can help you avoid being out of pocket.
Sometimes, you may need to encourage your debtors to pay on time, and businesses can offer incentives for the debtors that clear their outstanding loan before a given date. In this case, you will have to control the incentive in such a way that those that pay late do not become eligible for the encouragement. Some businesses impose penalties for late payments. Some other common incentives include:
- Refusing to supply further goods or services until bills are paid
- Chasing debts on a regular basis
- Offering flexible payment plans for customers
- Making sure the collection process is polite, professional and firm
Payment and credit policy
Your payment and credit policy should support your goals. A clearly defined payment and credit policy helps promote understanding and reduce conflict with customers over payment and credit issues. As an entrepreneur, all staff should be trained to implement your policy. Document and publish it for all customers and staff to see. This is a good way to promote your business as transparent, fair and honest.
With proper credit management strategies in place, you can achieve financial freedom from debt traps by balancing and maintaining your cash flow. If by any chance you’ve had a few slips, regain control of the situation