Tracking accounts receivable, or monies owed by your customer as a result of a credit transaction, is an essential part of managing your company’s cash flow.
 Cathy Clark
Properly managed, accounts receivable can generate profits for owners, allow for capital expansion, lower the cost of capital and reduce bad debt losses.
If mismanaged, accounts receivable may become a liability. If this situation occurs, it can reduce profits, delay necessary capital expenditures, increase the cost of capital, increase bad debt losses, reduce the ability of a business to meet financial obligations and, in extreme cases, lead to bankruptcy.
Successfully managing accounts receivable is a three-step process: creating your credit policies, knowing your customers before you extend credit and keeping track of your outstanding invoices.
Step One: Determine Your Policies
The amount of credit you offer will depend on the type of business you’re running. A luxury yacht builder, for example, probably needs to provide higher credit limits than a hardware store.
Here are a few matters to consider when determining your credit policies:
• Keep in mind that typically, the faster you bill, the faster you’ll get paid. Decide how much time you will give customers to pay your invoices. Most businesses expect full payment within 30 days and often assess a late fee. A common late fee is 1 percent of the balance per month.
• Consider offering discounts. Some firms offer discounts if invoices are paid within 10 days. This can be a great way to speed up your cash flow.
• Set a firm limit on the amount of credit you’ll extend, and don’t change it until you’ve gained experience with a customer.
• Investigate terms your competitors are offering to make sure you’re not out of line with the conditions you’re imposing and the discounts you’re offering.
Step Two: Get to Know Your Customers
Some small business owners are so excited about landing new customers or making sales that they might overlook the following important steps when building a new business relationship:
• Research your customer’s credit and payment history by running a “trade check” through Dun & Bradstreet. Contact your local Dun & Bradstreet office about its services (Website address: www.dnb.com).
• Ask customers to complete credit applications. Good information to ask for on the application includes the customer’s bank and accounting firm, how long the business has been operating and how long the current owners have managed it.
• Ask credit references how long they have done business with your customer and if the customer pays bills on time.
• Ask for a financial statement. Look for stability and a track record that shows the customer has operated through various economic cycles.
If your research shows the customer is creditworthy, then communicate your payment terms in writing and assess if the customer will have problems meeting them.
Step Three: Keep Track of Outstanding Accounts
From a bank’s perspective, once an account receivable is more than 60 to 90 days old, it’s considered uncollectible. Here are a few tips on how to stay on top of your outstanding invoices:
• If a customer does not pay on time, call immediately and tell the customer you expect to get paid when payment is due. If the customer can’t adhere to your terms, find out why and determine if you need to change them. In some cases you might need to stop offering credit and instead ask that the customer pay you in advance.
• Ask for a 20 percent to 50 percent deposit when possible, especially for custom orders. This will help you cover your up-front costs and reduce the amount you need to collect when the job’s done. It also helps prevent order cancelling.
• Run additional credit checks on your customers annually and note changes. You might be able to increase their credit limits.
• Confer with an attorney to determine if your company can take a lien against a receivable to ensure future payment. Some customers have been able to protect themselves by attaching liens against real property, such as a house or real estate.
Once a receivable goes bad, it might be too late to take action. Therefore, it is critical to have an accounts receivable plan in place before you open a business. That said, here is some advice for a challenging receivable:
• Ask your banker about options such as a line of credit against company assets to help with cash flow, or a personal home equity loan or line to cover your debts until you can collect receivables.
• File a lien, if possible.
• Consult your attorney to determine your legal rights and how far you should go in the collection effort. Weigh how much is owed against what it might cost in legal fees to recover the funds.
Accounts receivable are the closest thing you have to cash in your business. It’s important to manage them well to prevent them from turning into the iceberg that can sink your company.
Cathy Clark is the community banking president for Wells Fargo in Sioux Falls.
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