Assessing customers for credit and minimising debtors
The objective of debtor management is to minimise the time between issuing an invoice to a customer and collecting payment in full.
Debtor management involves four main decisions:
- Whether credit should be provided to customers.
- Which specific customers should be given credit.
- The credit period or trading terms given to customers.
- The maximum amount of credit to be given to a customer at one time.
The ideal situation for a business is to offer no credit terms to customers and collect 100% of the income upfront before providing the goods or services. Unfortunately the reality is only a few exceptional businesses, like Apple for example, can do that. For the majority of businesses providing credit to their customers is essential to maximise their sales.
The aim for businesses is to provide credit to ‘good’ customers who pay their accounts on time as this maximises sales whilst not incurring bad debt costs. Before offering credit to a new customer the following needs to be done:
- Credit application form – The signature of the customer that they have read and understood all the credit terms and conditions and have agreed to abide by them.
- Customer approval to conduct a credit check.
- Credit check conducted and analysed.
- Three trade credit references supplied and checked.
- Comprehensive details of all directors, partners or owners.
- A deed of indemnity and guarantee provided by all the directors of a ‘company’ customer.
Each customer’s credit limit and credit period should be set, agreed with the customer, and enforced. The credit limit and credit period reduce the credit risk to acceptable levels whilst maximising sales.