Do You Control Your Receivables or Do They Control You? Effective Strategies for Managing Customer Debt.
Does this sound familiar? You look at your mounting expenses and debate whether to ask for a loan (from a friend or bank) or inject more personal money into the business. Suppliers are calling constantly. Your customers are delaying their payments — some no longer even pick up your calls. You feel trapped between the debts you owe and the debts owed to you!
Receivables is the term given to customer debt (i.e. what your customers owe you). In business there are several ways of managing your receivables effectively to help reduce the stress they can cause. Below are some of them.
Clarify your rules on credit sales
Why do you sometimes sell your products/services on credit? Is it because you want to instil loyalty in your customers? Are you trying to attract more customers by offering flexible payment terms? Is it because your negotiation tactics are simply accommodating and when a customer asks to pay later, you agree in order to avoid conflict?
Quantify your receivables
Once you have clarified your credit rules, proceed to quantify how much of your money is tied up in receivables. They should be quantified not only for individual clients but also in totality. Some of the questions to be answered include:
- How much does each client owe the business?
- How frequently do they make payments?
- How long have the receivables been outstanding?
Calculate how much the credit really costs you?
If you employ debt financing in your business or bank loans simply expressed, how much does it cost you to provide an interest free credit to your customers? Make an effort to calculate the Effective Annual Rate your bank charges you. It is not usually the interest rate the bank disclosed to you, because EAR takes into account the fees you are charged, the amount of financing you effectively dispose of at any given point in time and the duration of using it during the year. Our Loan Calculator Tool can help you compare loans and determine your EAR.
Read more about how the tool works and EAR here.
For example, let’s assume your outstanding receivables amount to KES 100,000 and it takes around 36 days to collect them. Then assume that the EAR on your bank loan is 150% — believe it or not this is not uncommon in Kenya especially in the micro-loans sector. This effectively means that extending credit to your customers costs your business 15% (i.e. 356/36 or 1 tenth of the year at 150% p.a.).
Reward early payments
Give your customers an incentive to pay early. The cost you calculated above immediately shows you how much maximal discount you can offer your customers for immediate payment. You can also come up with a business policy where additional after-sales services are given to clients who pay early or on time. This may encourage more clients to be prompt on their payments and improve on the cash flow of the business.
Develop collection processes
As well as offering discounts to encourage speedy payment, develop processes for collection. These are simple steps that you need to take after a given number of days of delayed payment. First step: keep track! Note it down in your calendar, set alerts — just don’t lose sight of the receivable. For example,
- After a 1-day delay, send a follow-up reminder email.
- After 5 days — a reminder call from a lower level personnel. Don’t employ the heavy weight of calling yourself straight away, you might need it later on if the delay gets criminally long. Also, as a rule, sales people should not be the ones chasing after money. Clients should not have negative associations with your sales people.
- After 30 days — the debt is sold to a collection agency.
Remember to stick to the process! It is no use having the smartest process in the world if it is not implemented.
Revise contract terms
Some clients may not have paid because they are currently unable to pay, even though they are willing. The best way a business can deal with this is by renegotiating the terms of the contract with the client. This may involve giving an extension and agreeing on a new due date, probably reducing the amount for the client or creating a friendlier payment plan. This will accommodate the needs of these clients.
Request for an upfront payment
Some services come with additional costs for the business. Such costs, in addition to delayed payment, increase a dent in the cash flow of the business.
Requesting for a partial upfront payment will enable you to have initial cash to cover some of the additional costs that arise. The upfront fee will also partially compensate you for the time and resources used, as well as act as a buffer in the case of delayed payments in future.
Finally, strive to find the right balance
Calling clients to follow up on outstanding debts is a sensitive issue. In as much as you want the client to clear their outstanding balances, your approach should be in such a way as to maintain the existing relationship. You do not want to come off as too pushy, but you also do not want to hurt your business due to lack of cash flow for operations. Calling must be done with caution and skill. It should be done in a friendly way and with a lot of courtesy. Make sure the client does not feel embarrassed. After all both of you are stakeholders in the business and its success would be beneficial to you both.
Next to the financial cost, there is an emotional cost to beating payments out of your clients. Regardless of the quality of your products or services, customers are often left with a bad taste after being exposed to the pressure of the collection process. So, think twice before allowing any credit or payment plan at all. It might lead to the loss of clients rather than tying them to you.
