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Extending credit can be risky

Firm controls, policy in writing are essential

While many small businesses could not exist without extending credit, it is a high-risk venture for the business owner. Why? It deals with the limited amount of ready cash that remains in the business at any one time. The more outstanding debt, the less cash in hand. If you plan to offer credit, manage the process carefully. A cash-flow analysis is necessary to assure you will not run out of cash when extending credit. Vendor payments and operating expenses must be met while awaiting payment from customers. Often businesses will offer a cash discount for early payment, which speeds up the cash flow and lowers risk. Credit must come with firm controls. The objective is to achieve the greatest sales with the least amount of loss. A written credit policy is crucial. The policy should state specific standards under which credit will be extended, such as a good credit history from a credit bureau or Dun & Bradstreet report, plus good bank references. The policy should be communicated to employees so they understand their obligations in accepting credit. Each customer should have a credit limit set with the use of the ''4 C's'' of credit — character, capacity, capital and conditions of the market. Some have added two others — collateral and competition. Once the outstanding balance from that customer meets the established credit limit, then shipments must be halted until a decision is made about the situation. This can result in adjusting the credit limit or holding the shipment until payments are made. Credit limits are a vital part of credit policy. Unfortunately, many small businesses are lax in their investigation of credit histories. They might take evidence of one credit card as proof of low
risk. In fact, many people who are overextended have more than a single card and would refer only to those cards that are up to date with payments. If your firm is selling to other businesses, make sure you obtain good credit references from their suppliers.

Make credit checks a routine process. You might be accepting credit cards from consumers, but, in the case of business customers, you may be issuing credit in the form of payment terms for a 30-day period.

A regular review of each account is essential in controlling the age of your receivables. The longer money has been outstanding, the more difficult it becomes to collect and risk increases with time.

If you find that an account is consistently overdue, reduce the credit line or cut off credit entirely. Credit means someone is using your product and/or service and your money to do their business. Your obligation is to ensure your customers pay their debts.

You need a system for following up on overdue accounts. It may be first by a notice on the next bill, referencing the late account. The second notice may be a letter followed by a personal call. The final step, if required, may be to turn the account over to a collection agency or a lawyer for action.

The key is to manage the process before you ever reach the point where the debt is either so old or large that you have to take extreme measures to collect.


If you would like to discuss credit policies, accounts receivable or managing collections, Akron SCORE is ready to help through one or more of its counselors with business finance backgrounds. The service is free and confidential. For more information, call 330-379-3163 or visit online at http://www.akronscore.org.

While many small businesses could not exist without extending credit, it is a high-risk venture for the business owner. Why? It deals with the limited amount of ready cash that remains in the business at any one time. The more outstanding debt, the less cash in hand. If you plan to offer credit, manage the process carefully. A cash-flow analysis is necessary to assure you will not run out of cash when extending credit. Vendor payments and operating expenses must be met while awaiting payment from customers. Often businesses will offer a cash discount for early payment, which speeds up the cash flow and lowers risk. Credit must come with firm controls. The objective is to achieve the greatest sales with the least amount of loss. A written credit policy is crucial. The policy should state specific standards under which credit will be extended, such as a good credit history from a credit bureau or Dun & Bradstreet report, plus good bank references. The policy should be communicated to employees so they understand their obligations in accepting credit. Each customer should have a credit limit set with the use of the ''4 C's'' of credit — character, capacity, capital and conditions of the market. Some have added two others — collateral and competition. Once the outstanding balance from that customer meets the established credit limit, then shipments must be halted until a decision is made about the situation. This can result in adjusting the credit limit or holding the shipment until payments are made. Credit limits are a vital part of credit policy. Unfortunately, many small businesses are lax in their investigation of credit histories. They might take evidence of one credit card as proof of low
risk. In fact, many people who are overextended have more than a single card and would refer only to those cards that are up to date with payments. If your firm is selling to other businesses, make sure you obtain good credit references from their suppliers.

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