Do Your Customers Deserve Trade Credit?
As opposed to most consumer or retail transactions that are paid in cash (or by credit card), most commercial sales are done on trade credit. This means that your company has to deliver its services/products quickly, but then wait 30 to 60 days to get paid. Large companies ask for trade credit for two simple reasons. The first reason is that it takes time to process an invoice and issue a payment. This process can take a couple weeks, especially at large companies with many management layers. However, the second reason is the most important one. Large clients demand credit because it improves their cash flow. They get to use your products/services for up to 60 days without paying for them. It is as if your company was providing an interest free loan to your client. What is unfortunate about this situation is that often, small companies are the ones that provide trade credit to larger companies.
Trade credit can be risky
Unless you do it correctly, offering trade credit can be a risky proposition. The obvious risk is that you may end up offering credit to a customer who is not credit worthy. Suddenly, you end up stuck with an un collectable invoice that is due to become a write off. Remember, a sale is not a true sale until your client pays in full. Another problem of offering trade credit is that it can have a negative impact on your cash flow. You will need to deal with invoices that pay on different time frames, all while making sure that you have enough money to run your business. Often, this may involve juggling payments and vendors so that you can make ends meet.
Offering trade credit successfully
The simplest way to avoid bad debt is to only deal with clients that pay their bills on time. Often, this is easier said than done. Checking the commercial credit of a client can be a daunting task for those that have never done it. The truth is that the process is fairly simple, an uses common sense.
Step 1: Have the customer fill out a credit application
You should ask that every customer that wants yo pay you on net 30 terms fill out a credit application. Most credit applications are simple and collect the following information:
- Company name and address
- Banking relationships
- Commercial references
- Supplier references
Step 2: Check references
Once you have a credit application on hand, the second step is to check their references. But keep in mind that clients will only list their best commercial relationships, and those will mostly offer a positive review. However, you should call their supplier references and ask about your potential clients payment habits. Ideally, they should pay their invoices within terms.
Step 3: Check the credit report
Sometimes, you will have customers that won't want to provide a credit application. This is common for very large and well known companies that often don't want to bother filling out forms. You can still check their credit by getting a commercial report. As a matter of fact, you should check the commercial credit of all your term sales, unless you sales are very small. You can get credit reports from the following companies:
The most important information that you can get from these reports is your potential clients track record of paying vendors. That is a very good indication of how they will pay you. Obviously, if they pay far beyond terms and have a lot of unpaid invoices, you should consider selling them on COD.
One last piece of advice on this matter. Don't be fooled into thinking that large well known companies always have good credit. Many don't. And the best way to find out is to do your homework.
My customer has good credit. But I can't afford to wait for payment
Obviously, offering trade credit can have many advantages for your company. You will be able to expand your client base by simply offering the convenience and advantage of paying in 30 to 60 days. Unfortunately, many small companies can't afford to offer trade credit. They need to be paid quickly because they must have money to run their own business.
One way to solve this problem is to finance your invoices. Invoice factoring allows you to sell your invoices to a factoring company, in exchange for an immediate payment. This improves your cash flow. But more importantly, it allows you to work with clients that demand trade credit because you can always finance an invoice if you need working capital. When used correctly, this solution can provide a platform to grow your business, enabling you to take clients that demand terms - with confidence. Here is an article that explains invoice factoring in more detail.
Factoring rates as low as 1.5%. Advances as high as 85%.
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