Writing a Credit Policy for your Business

Is your Credit Policy Profitable ?

Author: Puru Grover

Credit is an indispensable catalyst in financing the movement of commerce. Its roots go fairly deep in time and are definitely as old as the concept of trade itself. As early as 1300 BC the Babylonians were lending on the basis of getting a charge on security or collateral. Credit touches us in various ways. To some it could be a mere caress or a tickle, to others it could be a brush, to some a graze and for others a crash or a collision.

To demonstrate the importance of credit, according to Industry Canada sources the Small Business Loans Act (SBLA), a program that serves start-up and smaller firms, has succeeded in lending more than $ 20 Billion to over 50,000 Small and Medium sized Enterprises (SMEs) in Canada, since its inception in 1961. The loans have helped in creating approximately four new jobs per loan. Today SMEs have become an integral part of the Canadian economy. Firms with fewer than 50 employees each were responsible for 81% of the new jobs in Canada in 1996-1997.

Credit helps in production, distribution, selling, consumption and expansion. It helps smoothen the rough curve of seasonality of a seasonal business. It increases the immediate buying power of a consumer. But where there is good there may also be bad and ugly. Credit could mean a collapse due to Overbuying, Overexpansion or Overselling. Probably the single most important factor is the maintenance of proper cash flow in operating a successful franchise. Cash flow problems can be avoided by making sure that you administer and manage credit with financial prudence and get paid promptly for goods or services rendered. Accounts Receivables, which can be broadly defined as uncollected sales, are one of the largest assets of a business, amounting to approximately 15% to 20% of the total assets of a typical manufacturing business. An uncontrolled growth in sales could result in an uncontrolled management of account receivables. What is the mission of a person with credit responsibility? What is the function of credit and credit management? To answer these questions I will refer to an article written by Michell Woods-Howell, wherein is mentioned the mission statement of Microsoft's Credit department. - 'To maximize the protection of Accounts receivable while supporting Microsoft's effort to expand sales and increase market share throughout the world, to evaluate accounts receivable worldwide risk and to make sure we have appropriate reserves in place.'

It just goes to corroborate the fact that no matter how big or small is the size of business operation, companies are focussing increasingly on managing and collecting their receivables efficiently and effectively, thus maximizing their cash inflows.

Credit is temporary capital and the objective of credit is to lend with the purpose of increasing profits and sales. A sound credit policy in business is the blue print to managing by measurement and benchmarks. The question then arises is 'What is a Credit Policy and how does one write a Credit Policy for their specific nature of business operations?
Writing an effective Credit Policy begins with an understanding of the financial exposure that you or your business can endure and the amount of your working capital that you would be willing to risk, or call it 'invest' in your customers.

Revolutionary developments in the computer and communications fields have forced companies to increase speed and become relevant. Markets are becoming global and economic activity across nations is becoming increasingly integrated. Competition can come from the face of a computer screen with the competitor sitting in a different time zone. About the only thing in business that is a constant, is change. As the world transforms at an unprecedented pace so have to the components that propel its engines. Thus a credit policy that is written without an understanding of the market and ample room for change in it and the one that is not frequently revisited could become obsolete in matter of days. With the information-age revolution, knowledge-based activities are becoming increasingly important for existence. Hence, enhancing skill-sets and knowledge is an intangible component of a credit policy.

I am of the firm belief that 'what gets measured gets managed'. Therefore as a matter of policy one should manage by measuring results. Every time a deal goes bad, review the things that were done incorrectly in either setting up of the account, monitoring or collecting it. Measure Days Sales Outstanding (DSO), aging receivables, and bad debts as a percentage of sales. Keep a tab on your liquidity by reviewing liquidity ratios like the current or working capital ratio. Also keep a pulse on your inventory turnover. This will tell you if your efficiency is increasing, decreasing or the same over different time periods. Profits are a combined function of liquidity and efficiency. You can use the same logic when assessing your customer.

Using quality information can help scores in managing risk. Collecting relevant information requires a well thought-out Credit Application. It should seek permission from your customers to conduct credit investigation from credit bureaus, trade and bank references for the purpose of granting credit. A Credit Application is a document that not only collects information but is also an 'Application for a Loan ' that the applicant fills. Make sure that your Credit Application reflects the sentiments that you are serious about the amount that you will be extending in the form of cash or kind.

As a guideline you can write your policy in the following sections. The contents of each section can be written to best fit the nature of your franchise:

1. The set-up of credit function.
2. Objectives of the credit function
3. Terms and conditions of sale
4. Sales responsibilities with credit issues
5. Billing procedures
6. Obtaining Information on new customers
7. Procedures for opening new accounts
8. Process of assessing the information to arrive at line of credit and credit terms that will be offered
9. Monitoring your investment in your customers
10. Profiling your customers to do strengths, weakness, opportunity and threat analysis.
11. The feedback loop for reporting
12. Allocating resources and responsibilities
13. Defining past-due and bad debts
14. Targets, benchmarks and deadlines for the credit function
15. Procedure of collecting from delinquent customers
16. Analyzing the changing needs of your markets/customers.
    

Entering the marketplace by investing in a franchise can be one of the best ways that an entrepreneur can launch a successful business. Franchising in Canada continues to grow at a significant rate. Franchise sales in Canada in 1987 were estimated at $61 billion; and now it is close to 90 billion. The retail trade alone represents almost two-thirds of that number. It is expected that sales will increase 10 to 15 percent annually over the next few years. The person who operates a franchise gets the better of both the worlds - the satisfaction of operating an independent business, combined with the leverage of working for a large organization.

Ultimately, Credit Management is an art and not a science. It is definitely an 'indefinite'. It gets its design from a variety of inputs like the creativity, experience philosophies and attitudes of the individuals administering it. Sometimes a decision based on your 'gut' feeling against all odds could prove to be the best one. But as a credit adage goes "get the calculations right in a calculated risk" and remember that 'A sale is not complete till the money is collected.' Good luck with your franchise.

Source: The above article appeared in the "Canadian Business Franchise Directory 2000". The directory is a complete guide to franchising in Canada and is available at major book sellers.

Collecting Your Debts

With perrmission from CreditGuru.com © 1999-2007 Credit Guru.com
Collection Skills Series

Here are eight points to consider when collecting from your overdue customer.

1. Be Prepared:

Know thyself……!
There couldn’t be a better way of wasting a phone call if you were not physically and mentally prepared to make that phone call. Emotions can be very easily read over the phone. So be eager to collect the money. After all it is your money!
In your call be prepared to Express Urgency! Remember if you are not eager to get paid, why will your overdue customer be eager to pay you. State your urgency regarding the overdue debt by soaking it with emotions. Also, be prepared for some retaliation. After all it is the nature of the beast! Hence, be positive and make the person on the other side of the phone see the merits and the positive sides to paying their debt on time and also explain the consequences of non or late-payment. Psyche yourself for the call and at all times maintain a professional approach.
…know thy customer’!
Understand the impact of this customer to your business. Both in terms of size and cash flow. Study the history and payment trends of this particular customer. Know the exact amount and reason for the overdue amount. Remember, when you make the call, ask for the full amount and do not assume that there is a problem. Many collectors make the mistake of asking ‘Is there is a problem’!
Know the decision-maker and speak to him or her. The size of the company will determine who your payment decision-maker will be. The smaller the company the higher the level of decision-maker. Involve a decision-maker, because you expect a quick decision and a commitment that in future your invoices will be paid on time.
If their Payment Pattern has changed take immediate corrective measures. Investigate the reason because it could be the beginning of some concerning cash flow problems. Show concern as a business partner but assert the fact that the payment is overdue and that you expect to get paid on time, each time.

2. Ask Questions.

Questions convey to your customer that you are concerned. Questions also provide you important information for leading the discussion and controlling it. Questions also yield information or reference material for future reference. Ask open ended questions and when the conversation requires it ask leading questions. If time is being wasted then perhaps start closing with close-ended questions. Keep control!

3. Listen

If you are asking questions the tendency is to get distracted with asking and thus forgetting to listen! Don’t just listen to what your customer has to say but listen to the surroundings, the tone of your customer, the sincerity etc. Active listening requires being more imaginative than mere casual listening. Paraphrase and summarize your conversation. Clarify and state clearly your expectations from the customer. It shows that you care and listen and that you have clarity of thought.

4. Make Notes:

Memories are mighty short! There is no substitute here, talk with a pen and paper in your hand doodle, if you have to, and keep writing. Your notes could even save the day one day when you need them. Hence, preserve them electronically or otherwise where it becomes part of customer history. Let others in the company, especially sales, have access to your notes.
In your follow-up calls get progressively firm if the need arises. Be assertive and not aggressive.

5. Broken Promise(s):

There is an adage in collections: ‘If they break three promises they will break thirty’. Broken promises are to be taken seriously. Promises are made on both sides yours and the customer’s. If you made a promise like ‘Calling at a particular time’ or ‘ Investigating a certain problem within a certain time frame’, then keep your promise! There is nothing worse than loosing credibility. Say what you can do and not what the customer needs to hear. Credibility is one of the most important aspects of a collection call. Make sure that the company will support your actions before you talk about them to your overdue debtor (customer).
If a customer breaks his or her promise then take immediate action otherwise again your credibility will be at stake and don’t be afraid to point fingers at the customer for demonstrating poor credibility.

6. Avoid Arguments and Threats.

A debtor can easily push you into an argument and drive your attention away from the your key objective of ‘getting-paid immediately’. Stay composed and focussed. In the profession of collecting debts it is easy to get aggravated, emotional and flustered. Getting into an argument is tempting . Do not allow your customers to lead you, be firm composed and guide yourself. Use your leverage as a last resort.

7. Objections.

The objective of your call is to get the full amount paid NOW! You could be faced with a barrage of objections in achieving this objective. Treat every objection as an ‘Opportunity’ to get a commitment for full payment. Establish with your customer that the objection that they are posing is the only one and if that objection is dealt with then there should be immediate payment. Get the commitment on getting paid on an objection.

8. Work smart and not hard.

Use the resources available to you effectively. If you really want to be successful in collecting those debts then get the salesperson involved too. Make friends with your salesperson.
The quality of your collection effort counts and not the quantity. If you subscribe to a collection agency then use them effectively. Some of them provide you with collection stickers. Use these on your correspondence or overdue statements. It adds extra leverage to your collection efforts.
Finally, remember that you are dealing with a business partner. Customer Service is a part and parcel of a collector’s job. Enjoy what you do and the monies from your overdue accounts will just follow.

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