Credit Management - Strategies to Improve your Ratings


By

Dr. Sarveshwar Pande
Asst. Professor
MBA-Faculty
SITM
Lucknow
 


INTRODUCTION

Consumers with debt problems have to deal with their creditors constant attempts to collect their debts. Although creditors have every right to ask for their money, there are creditors who go beyond the proper way of debt collection. Creditors may bombard a debtor with frequent calls even late at night or very early in the morning. They may use abusive language in their calls or call the borrower's friends and relatives without consent. Some creditors may go as far as threatening their debtors if they don't pay their debts. If you're experiencing these things from your creditors, then you are clearly experiencing creditor harassment. Dealing with a harsh creditor puts more pressure and anxiety on the borrower especially when faced with financial crisis.

This paper aims to highlight what a customer who has severe credit  management constraints should be aware of and some strategies which can be adopted to combat a credit management crisis. It should be noted that some UK and Australian examples have been quoted which may benefit consumers who are in a similar debacle in India of course.

As a borrower, it is not wise to hide from your creditors or ignore their attempts to contact you if you have delayed or have skipped with your payments. On the contrary, you should try and talk with your creditor as early as possible to let them know about your current financial situation.

If you've been laid off from a job, have been sick or experiencing other circumstances that are beyond your control, you should definitely inform your creditor about it and explain why you haven't been able to keep up with your payments. In most cases, talking with a lender helps straighten out the situation. However, it is a fact that there are lenders who refuse to show consideration or extend kindness to a borrower in crisis. When this is the case, trying to negotiate would not be the best solution.

Consumers should be aware that under the Fair Debt Collection Practices Act, creditor harassment is a direct violation of the law. A creditor is not allowed to use offensive, profane or abusive language; threaten a person; call during inappropriate hours; and contact a third party to inquire or disclose any information about the borrower's debts. As a borrower, you have the right to protect yourself and not allow your creditors to treat you abusively. You can send your creditor a "cease & desist" letter telling them not to contact you in reference to the Fair Debt Collection Practices Act. Sometimes, due to extreme financial difficulties, a borrower is left with just one solution and that is filing for bankruptcy. Filing for bankruptcy protects you from creditor harassment and other unlawful debt collection practices. After filing, the Bankruptcy Court and your attorney will immediately send a mail to your creditors informing them about this move. If your creditor calls you before the mail reaches them, you may tell them that you have done so as well.

According the Fair Debt Collection Practices Act, creditors should stop all their debt collection attempts right after the bankruptcy has been filed by their debtor. If the creditor fails to do so and still continue to collect debts, he will be facing charges and penalties. Clearly, creditors must stop contacting their debtor at once if he filed for bankruptcy. Consumers with debt problems have to deal with their creditors constant attempts to collect their debts. Although creditors have every right to ask for their money, there are creditors who go beyond the proper way of debt collection. Creditors may bombard a debtor with frequent calls even late at night or very early in the morning.

They may use abusive language in their calls or call the borrower's friends and relatives without consent. Some creditors may go as far as threatening their debtors if they don't pay their debts. If you're experiencing these things from your creditors, then you are clearly experiencing creditor harassment. Dealing with a harsh creditor puts more pressure and anxiety on the borrower especially when faced with financial crisis. As a borrower, it is not wise to hide from your creditors or ignore their attempts to contact you if you have delayed or have skipped with your payments. On the contrary, you should try and talk with your creditor as early as possible to let them know about your current financial situation. If you've been laid off from a job, have been sick or experiencing other circumstances that are beyond your control, you should definitely inform your creditor about it and explain why you haven't been able to keep up with your payments. In most cases, talking with a lender helps straighten out the situation. However, it is a fact that there are lenders who refuse to show consideration or extend kindness to a borrower in crisis. When this is the case, trying to negotiate would not be the best solution.

Consumers should be aware that under the Fair Debt Collection Practices Act, creditor harassment is a direct violation of the law. A creditor is not allowed to use offensive, profane or abusive language; threaten a person; call during inappropriate hours; and contact a third party to inquire or disclose any information about the borrower's debts. As a borrower, you have the right to protect yourself and not allow your creditors to treat you abusively. You can send your creditor a "cease & desist" letter telling them not to contact you in reference to the Fair Debt Collection Practices Act.

Sometimes, due to extreme financial difficulties, a borrower is left with just one solution and that is filing for bankruptcy. Filing for bankruptcy protects you from creditor harassment and other unlawful debt collection practices. After filing, the Bankruptcy Court and your attorney will immediately send a mail to your creditors informing them about this move. If your creditor calls you before the mail reaches them, you may tell them that you have done so as well.

According the Fair Debt Collection Practices Act, creditors should stop all their debt collection attempts right after the bankruptcy has been filed by their debtor. If the creditor fails to do so and still continue to collect debts, he will be facing charges and penalties. Clearly, creditors must stop contacting their debtor at once if he filed for bankruptcy.

Why Have Credit Control?

The UK business sector is universally recognised as having a incredibly slow payment culture. Everyone appears to agree that this culture is not good for business, it is unfair, epically on small businesses and borders on the immoral. The slow payment culture in Britain is worse than all other European countries except for perhaps Ireland.

Controlling Risk

Credit control is about controlling risk, the risk of non-payment and the risks associated with late payments, the risks of opening some accounts, while at the same time keeping good customer relationships. These are the main problems inherent in the late payment culture - how to get your money while keeping good customer relationships. The larger the company the easier this task is, and the converse.

The Right Attitude for Credit Control?

You might think here I would be immediately talking about the credit controller - but no. Often companies do not have the right attitude to their own credit staff, and that will cause a motivational problem, one that is almost insurmountable. Like all staff credit controller have to feel they are doing a worth while job and that it is view like that within the company. Too often I hear the credit department referred to as the anti-sales department. There is no profit until the company get paid. This has to kept in mind. The company is not a bank. Credit controller will work very well when there are good guidelines and well laid out company credit policies.

Credit controllers are in general the most abused employees within any company - customers lie to them all the time, complain about them, especially when they are putting off paying an invoice, customers are aggressive, and shout and swear at them. At the same time they walk the fine line between getting paid and not causing any problems for the company they work for. These problems diminish as the company they work for is more dominant with the market or it is a multi-national.

Bear in mind - if the credit controller, like any other employee, feel a good connection to the company and that they are being protected, they will work better and more productively - win - win.

The Credit Controller's Attitude

As with some many things within a company this comes down to training and personality. Sometimes no matter what you do some people cannot do this job - if that is the case move on quickly.

However if you are doing it and want some help read on. I work best in the mornings, I have lots of energy before lunch and therefore I will schedule anything that is difficult during this period, if I can. Some don't fully join the world until late in the day - if that is the case for you then get the paper work done in the morning, do reports, send out mail, copy invoice, delivery notes, and when you are ready tackle the calls and talk to your customers.

Golden Rule - Never get angry. Or if you do never act on your anger. Credit controllers are provoked many times each day and this is one of the main task of the job, learn how to deal with your own emotions. If the conversation is getting out of hand, put the customer on hold for a moment - not more than a moment as they will not be there when you go back.

Follow your own company's credit procedures. That may sound too simple - but it is amazing how often credit controllers forget this simple task. Know what the policies are, have a copy of them, it is sometimes helpful to be able to email, fax or post them to some customers.

Good Credit Control

Undoubtedly the best credit control initiative is to arrange the sales invoicing such that customers pay up front for goods and services. Despite care taken to exercise credit checks on new customers the actual payment experience is often more valuable in practise.

10 Simple Rules for Credit Management

Why credit control is so important

Cash flow is the lifeblood of every business, and poor credit control will greatly affect your cash flow and your ability to pay your debts on time. Bad debts can also increase the amount of interest that you pay, shrink profits, and ultimately close the door on your business. Yet in many industries, credit is a fact of life. By not offering credit, you could be losing customers to competitors who do give credit, and this could jeopardise your business success. By following some simple procedures, you can keep track of credit to minimise the risks and maximise your chances of prompt credit collection.

How can I protect my business from credit losses?

If you are in manufacturing, wholesaling, service or retail business, and you find it necessary to give credit to your customers, you should take action to protect your business from credit losses. You cannot afford to offer credit to your customers without including the cost of providing credit in your prices. And you cannot expect to give better credit terms to your customers than you receive from your suppliers. Remember, credit is a two-way function. Your own credit rating is based on your ability to pay and your customer should receive the same consideration. An easy way to think of credit to a new customer is to regard it as lending money. Would you lend money to a total stranger without some security? The following will provide some basic rules for controlling credit:

1. Establish who you are dealing with

Set up a credit application form, which all customers must use before credit is allowed. This enables you to ascertain who you are dealing with, the credit limit sought, who can access credit, if directors guarantees are necessary and if so from whom, credit referees and other relevant information. Consider the credit collection pattern in your industry. Please note: The information provided on the credit application form and customer records may be subject to the Privacy Act 1998 (Cwlth). Please contact your legal advisor for more information.

2. Approve credit

Provide written response to a credit application promptly when either approving credit, declining credit or requesting further information. A credit approval letter should state the amount of credit given, credit terms, guarantors (including guarantee forms), penalty/default terms and any other terms and conditions pertaining to the credit approval.

3. Mail invoices promptly

Prompt and accurate invoicing with straightforward product descriptions and terms of trade will show your customer that you are serious about payment terms and conditions. It is often advantageous to close off your credit system mid-month to ensure those businesses that have end of month cheque runs for their creditors, have your statement early enough to effect payment at that time (rather than at the end of the following month).

4. Keep up-to-date records

One of the keys to effective credit management is to maintain accurate and up-to-date records. An ageing of debtors (how long they take to pay their accounts) should always be available. Follow up of debtors trading outside their approved credit terms should be immediate in all cases (treat large and small accounts the same). Do you have a clear and unambiguous credit policy? Such a policy determines and communicates: When payments are due. The amount of interest (if any) that is to be charged and the total amount of each payment (including interest). The type of references (character and credit) and other information that is required for a customer to open an account with you. Any discounts that are available for prompt payment. These should be made clear in your written credit approval.

5. Avoid special cases

Making special arrangements can backfire. No company is so large or important that you should let them ignore your terms. Rather than damaging goodwill, insistence on firm, and simple settlement terms will create a healthy respect for your financial efficiency. Remember, it may only take that one exception to drain your business of its cash. All verbal arrangements should be confirmed in writing.

If the customer is a company, make sure that you get a personal guarantee for payment by one or more of its directors. Consult your solicitor for advice about the Credit Act 1987 and how it may affect your business. Ensure that a credit ceiling (a maximum amount of available credit) is established for each account customer in view of their ability to repay their debts.

6. Read the financial press and trade journals

Due to their day-to-day responsibilities, many small business operators neglect the "big picture" and are out of touch with changes in the marketplace or the economy. Financial media and trade journals are a cost-effective way to get the feel of your market. Where available, subscribe to an appropriate credit reference bureau.

7. Start at the top

When attempting to settle accounts, you should deal directly with the decision makers. Discussions with other people on overdue accounts can waste time. It's usually far quicker and more effective to deal with the person whose signature appears on the cheque. By all means send a letter, but you should follow it up with a personal visit if possible.

8. Keep your promise

Don't threaten legal action unless you intend to go through with it. Issuing empty threats will probably mean you will wait even longer in the future.

9. Watch trends

Guage how well you are controlling your credit with some easily understood measures such as average days sales outstanding, results against targets, and proportion of disputed accounts. Other warning signs to watch are changes in cheque signatories or cheques coming from other than the debtor. When this happens, inquiries should be made immediately.

10. Spread the message

Communication is the key to preventing or resolving most problems. All your employees should be well informed of credit control procedures and the reasons behind them. Your ability to communicate internally will probably be linked to your business' ability to control credit in the marketplace. Regula staff meetings to discuss credit will assist this communication and improve your credit management.

Further information

Your financial or legal advisor, or bank manager, may be able to provide further advice with regard to solving particular credit problems, or at least refer to you a mercantile agent or credit consultant. The Australian Institute of Credit Management delivers education and training support contact via
telephone 07 3352 7546 or www.aicm.com.au. Especially if no such society exists in India. The following fact sheets provide further information on these issues:

* Reduce your exposure to losses
* Risk management

New clients can be asked to pay in advance by issuing pro format sales invoices for the initial orders until credit checks are complete. In businesses which involve the supplier incurring costs prior to invoicing such as purchasing materials for a job then it is logical the terms of trade should require the client to pay an upfront deposit to cover this expenditure. The majority of business is conducted on a credit basis and the terms of supply and payment of goods and services should be clearly stated in a set of trading terms the potential customer should sign and agree to before trading commences.

The terms of trade should state clearly the effective date an invoice becomes payable, credit allowed and the interest that may be charged in the event of late payment. When credit is tight during a credit crunch the money supply reduces and the cash flow of every business is affected. Business which have a lack of credit control over sales income suffer the most as other businesses take advantage to supplement their own cash deficiencies and liquidity problems. The solution is to review and set a clear financial policy the business will follow.

The first step in a credit control system is to ensure customers want to pay in advance and within the agreed terms. The very best way to achieve early settlement is to make the settlement in the interest of the client and money is in every businesses interest. A potential solution would be to offer a cash discount for early settlement. Offering a cash discount for early settlement adds another valuable tool to the credit control procedures as the debtors who do not take up the potential of paying lower prices are most likely to already have cash flow problems and credit should be restricted.

The financial policies of a credit control system should include accurate accounting records and the prompt issuing of sales invoices and the regular production of customer statements. Clients who go over the allowed credit limit must be sent a series of credit control letters worded to ensure the customers take action to pay the outstanding invoices. Credit control letters should be sent at predetermined intervals and each should indicate the amount outstanding should be paid immediately by escalating the effect on the business relationship if payment is not made.

Such an escalation may be an initial statement of the amounts due for payment. Many accounting and bookkeeping departments use the supplier statements to schedule payments rather than individual sales invoices. Personal contact with the supplier accountant or bookkeeper can assist early settlement. The first letter should advise the debtor that the standard terms and conditions have been exceeded and request payment to maintain a sound trading relationship. The next credit control letter might advise the sales debtor that late payment penalties and interest payments will be invoked if payment is not made.

In the UK there is a statutory right under the Late Payment of Commercial debts (Interest) Act 1998 to charge debtors interest on late payment and also claim reasonable debt recovery costs. The right to exercise this statutory right does not apply if the terms and conditions of the business set out different debt recovery parameters. Unless the terms and conditions or sales invoice set a different credit term then every commercial invoiced is due after 30 days.

In the UK the interest rate a business can charge is fixed twice annually on 30 June and 31 December using the base rate as the reference rate and then is applicable for the following 6 months. A rate fixed on 31 December is applicable from 1 January to 30 June of the following year. The interest rate to be charged would be the Bank of England base rate plus 8 per cent. If the base rate is 5 per cent on the reference date then the amount that can be charged would be 5 plus 8 equals 13 per cent. In the UK there is a set schedule of reasonable debt recovery costs that can be charged to late paying customers. These costs are 40 pounds for debts under 1,000 pounds, 70 pounds for debts between 1,000 and 10,000 pounds and 100 pounds for debts over 10,000 pounds.

If the client chooses to ignore being charged extra for non payment then the next letter should advise the debtor the future orders will be placed on stop until the account is brought to order. Such action by the supplier may harm future sales but it is better to restrict the financial exposure to the sales already made than continue to extend credit where the prospect of never being paid may become a reality. If payment has not been received by this stage then a serious situation has developed. The customer has not paid on time causing the business a reduction in cash flow. The debtor has also indicated by non payment action that increased costs through interest and penalties is preferable to paying and finally that they are prepared to risk not receiving further goods and services.

At this stage the supplying business has to consider legal action to recover the outstanding balance. The amount outstanding is at risk and legal debt recovery should be invoked to avoid the whole balance becoming a bad debt which may never be recovered with the consequential effect on both cash flow and net profit.

References

Brown, A.B & Johnson, M.I, "Credit Risk- A look at How British Customers face the Music", 2007, Oxford Press, pp23-45.

Brytton, W, "Problems of Credit Management", 2005, Collins publishing House, UK, pp.2-7.

Henderson, L.P. "Administering Good Credit Policies for Small Firms ", 2006, Australian Press, Sydney, pp15-20.  

Shannon, F.L "So You want to escape debt? do You have a Plan?", 2007, Oxford Press, pp.3-40.
 


Dr. Sarveshwar Pande
Asst. Professor
MBA-Faculty
SITM
Lucknow
 

Source: E-mail March 16, 2008

          

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