Strategy in Credit Management

The accounts receivable represent usually around 25% of the total assets of businesses, although this ratio depends strongly on the sector (trade, industry, services, etc.).

It is therefore very significant for many businesses and very consumer of financial resources without being remunerated. It can be considered as a permanent financial weight for companies.

Accounts receivable represent the amount of money at risk. This risk has to be managed so that the financial resources of your company scattered among your customers (bills issued but not paid yet) do not create bad debts with negative consequences for your business.

What are the challenges for which Credit Management strategy?

We can identify four main risks associated with receivables:
  • risk of losses and provisions for bad debts,
  • risk about working capital requirement and cash flow,
  • risk of depreciation of value due to inflation,
  • risk of excessive consumption of financial resources, which results in an inability to make investments for your business.
It is more difficult to determine the opportunities of accounts receivable:
  • It is often a business requirement to grant a payment term to your customers. In this way, you found the activity of your client. This is precisely what he is requesting, even if he does not formulate this need in these terms.
  • Ability to discount your receivables to get cash faster compared to the due date of your invoices.

What is the strategy?

It can be defined as follows: "Strategy is the setup of coherent actions involved in a logical sequence to achieve one or several goals".

The strategy has a long-term objective.

So, you need to define your credit management strategy and answer the questions: why do you want to do this, and how will you do it?

It depends mainly on your business's financial structure and profitability, the weight of your receivables, and your business strategy.
Credit management strategy should be fully integrated into your company's business plan. It should be determined by the financial constraints your business plan imposes on you.
In fact, the choices you have to make in the management of your accounts receivable have an impact on the profitability of your business and on its working capital and investment capacity.
 A goal that you establish by asking the right questions of yourself should define your strategy:
  • What are the basic needs of your business?
  • Is it to improve profitability or reduce your working capital requirement?
  • Improving working capital in order to ease your cash flow or financing investments?
  • What are the types of customers and their creditworthiness?
  • What are the payment conditions on the market?
Your strategy in credit management will be the output of this objective.
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Some examples of strategies of Credit Management

Objective Strategy Method Advantages Disavantages
Improve its investment capacity Minimize the receivables
  • Negotiate payment terms reductions with your customers against discount, or payment in advance only
  • Discount your receivables (factoring, discount of bills of exchange)
  • Efficient collection of your receivables
  • Negociate down payments
massive reduction in working capital and increase f your investment capacity cost and profitabilty impact. Sales can be affected if payment term too restricted are required
Maximize profitability Secure your receivables
  • Limitation of the risk of default
  • Low cost
  • High working capital
  • Negative commercial impact
Develop its sales Flexibility towards customers
  • Grant long payment terms
  • No request of guarantees or down payments
  • Fexible collection process
Contribute to the sales development at short term
  • High risk of unpaid debts and high working capital
  • Loss a credibility if collection is too flexible with customers


Obviously, these objectives described here drastically have to be balanced. You have to define the direction you want to take and how far you want to go with your strategy.

For example, a sales increase goal may include a defined risk level of a maximum amount of outstanding credit risks or the establishment of a credit insurance type excess of loss in order to prevent high losses due to unpaid debt. Indeed, a good balance between risk mitigation and payment terms policy associated with efficient credit management processes allows to increase sales while being paid well without risk. Working on process efficiency is the key to reach all goals at the same time!
Define a clear strategy is essential to properly manage its accounts receivable.

This implies that a deep analysis is conducted with sufficient perspective.

It concerns the whole quote to cash process. Therefore, it is not limited to the credit management / finance departments but concerns all actors in the company. All (sales managers, customer care, etc.) must be aware of the rules coming from this strategy.
The processes established as a result must also be scalable according to the situation. For example, the application of late payment penalties, in addition to their theoretically mandatory nature, makes even more sense in an inflationary period.

How to achieve your goals?

A word of advice: be ambitious because the quality of receivables management very often reflects the quality of your company's organization. Profitability, cash flow, quality, customer satisfaction, etc., are all key points that can be improved through the management of late payments and other aspects of credit management.

In order to be effective on all of these subjects, it is essential to set up appropriate tools that are consistent with your strategy. For example (non-exhaustive list):
  • Clear contractual conditions regarding the standard payment terms granted to customers.

  • A credit limit management process with validation workflow based on relevant credit analysis.

  • A credit management procedure indicating the practices to be applied at each stage of the sales process.

  • A credit insurance contract to better prevent and cure customer risk.

  • A solution providing financial information on its customers.

  • A dedicated software to optimize accounts receivable management and implement your credit management, cash collection, and dispute management processes.

  • A specialized partner to deal with unpaid bills and litigation.

  • etc.

 

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S. - 15/01/2022
Thanks for an introduction. Would really appreciate a info graphics instead of examples that would be vivid picture.
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