Whether lending for 30, 60 or even 90 days, your cashflow can suffer greatly when customers are late to pay. This lack of cashflow can impact on other areas of your business and slow your trading down dramatically.
As receiving payments on time is so important for business success, how can you help to ensure your debtors are good for their payments and what are the best methods for keeping on top of your payment agreements?
1. Credit checks
Are they likely to be able to pay? There are a number of ways to test how likely a customer is to pay their invoices on time. Most methods require a little time, but, depending on the importance of the potential customer, could help to ensure your cashflow runs smoothly. For instance, if a small business is owned by a sole owner, it is likely that their personal credit rating is reflective of their professional credit rating – an accepted credit rating would usually be 75 or higher. Credit reports can be purchased from any of the three main credit reporting agencies (Experian, Equifax or TransUnion).
2. Bank references
Asking your potential customer for a bank reference can also give you a basic opinion on how risky the bank thinks your potential customer is. Although you should not base your decision entirely on this, it can provide a great start for assessing risk.
3. Supplier references
Who better to ask about a customer’s credit than the people who currently deal with the customer? This is probably one of the more useful methods of credit checks where you ask the customer’s suppliers how good the customer is at paying on time. One of the issues which can arise is that your potential customer will only ask a happy supplier to provide a reference. It is also possible that the customer has a good relationship with only one of their suppliers. Always askfor multiple supplier references to achieve a more-rounded view.
4. Credit checking agency
Although a relatively high expense compared to other methods, hiring a professional credit checking agency will give you the best assessment of the risk if you were to offer credit to a customer. This method may be best held back for larger customers, where you stand to lose far more if they don’t pay on time.
5. ‘Pro-forma’ approach
Using a pro-forma approach can help build trust between you and the customer. By asking for immediate payment of the invoice for the first few transactions, you can gain evidence that will support whether the customer is strong enough to pay once given credit. This works well for building trust with any recent start-ups you may encounter as they may not necessarily have other proof of their credit rating strength.
6. Published accounts
If your customer has published their accounts, take a look! Websites such as Companies House and Creditsafe offer published accounts as well as Duedil, which is free for start-ups. By applying some simple accountancy formula to the information given from the sites, you can judge how likely the customer is to pay on time if given credit. Many formulas such as the gearing ratio, current ratio and acid test ratio will help inform you about the cash-flow strength of the business in question – your accountant will be familiar with these formulas and should be able to help.Alex Kyriacou is brokerage manager at invoice finance specialist Touch Financial.
Startups.co.uk has partnered with Touch Financial so that if you are looking to release cash from your invoices you can request a quote from one of the 20 leading lenders in the UK here.