Managing Your Debtors
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Managing Your Debtors

How to manage your debtors - Creating a strong credit policy is important both to attract customers to your business as well as to keep your debtors within your reach as well as within their balance due. A formidable financing department should ideally keep this in mind as a sale is not done unless cash is finally received leading to the famous idea that 'Cash is King'

A company’s main income is from its sales and sales are done either on cash basis or on credit. Selling on credit is effectively giving out loans without receiving any interest. Furthermore, that amount which the debtors have not paid us could have been invested thus earning interest on it and increasing our cash balance.

Setting a Credit Policy – Who should set it?

A sale is made when you receive payment and not when you deliver the goods. An important tool that a financial manager should make use of is that of a credit policy, because as they say, ‘if you do not manage debtors, debtors will manage you’. If you do not offer sales on credit, customers will probably choose other sellers who offer such terms. Therefore you cannot just decide not to offer credit terms. Top management should set a credit policy which support’s the firm’s objectives. This is because the top management would know the requirements of its sales departments and credit departments since where the sales division would want to increase sales at all costs, the credit department does not want to run the risk of bad debts.

Client’s Creditworthiness

All clients who apply for credit terms should be required to produce proof of their ability to pay up the sums owed to us within an agreed period. The initial credit application should be made in writing and provided to the credit manager with certain information that can be readily verified. One can later even resort to other detail such as the client’s financial statements (where the client is a company). Clients who refuse to supply further information regarding their credit worthiness should be refused credit.

The reputation of the client is extremely important. Who is the owner of the business? Who is the company’s CEO and is he reputable?

The history of the business is also important and one may be interested in details such as how has it developed and how does it meet its obligations. Reference to credit rating agencies, banks, and financial statements will help in getting such information.

Information could also be sought from the client’s previous suppliers although if the client had failed to pay a supplier he would be reluctant to name them as references so this could be tricky analysis. You would probably have to fish out probable suppliers that were working with the client and ask them how their experience was.

It is important to try and discover the best information you can on your client’s credit worthiness before you sell him on credit since after you make the deal you could be throwing away the company’s money. Obviously, some risk is always inevitable but this must be balanced against the expected returns from additional sales.

Credit Limits and Periods

New customers should be granted low level credit periods. It is usual to find credit periods of 30, 60, 90 days. This means payment must be made up to those days. Setting credit limits and periods will lead to rejecting of granting further sales if the client has reached the credit limit established. Such rejections would be notified to the credit manger who will establish whether an extension is granted or not. A large excess should demand an explanation.

When providing your customers with credit terms you must take into consideration the following:

  • The expected additional sales volume
  • The profitability of the extra sales
  • Extra length of the average debt-collection period
  • Return on investment in additional debtors

Cash Discounts

Cash discounts should be given so that the client will have an incentive to pay in cash sooner. Example of such is 2.5% cash discount if paid within 7 days.

Collection Procedures & Credit control

When a customer stops paying or slows down payments, one needs to start to investigate why this happened.  Quick investigation will alert your client that you know that he has failed to pay and are on his tail. When debtors continue to act suspiciously one should stop supplies to them.

Key steps to ensure your debtors pay up:

  • Collection letters
  • Telephone enquiries
  • Visits to debtors
  • No threatening actions
  • Keep calm
  • Last resort a legal action—main objective is to get paid not lose a customer

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