Should You Offer Credit Terms?

"Let's face it-North America runs on credit, soit's a disadvantage if a business doesn't offer some formof it," says Frances McGuckin, CEO of SmallBizPro.com inLangley, British Columbia, and author of Big Ideas for GrowingYour Small Business: How to Build Profits and Manage Growth(McGraw-Hill Ryerson). And yet, in tough times-which is preciselywhen business owners begin extending credit to lure those customersreluctant to part with cash-bankruptcies abound, and it can beriskier than ever to accept incremental payments. Just one or twodeadbeat customers can push some businesses dangerously close tothe dark side, and other business owners can find themselves soconsumed with collections, they're left with little time to runtheir businesses.

"Extending credit is a [double]-edged sword," admitsRobert Smith, 30, president of Robert Smith & Associates, a5-year-old PR firm in Rockford, Illinois. "I give credit termsso more people can afford my publicity services. I also have peoplewho still owe me money-and who will probably never pay."

To cut down on the latter, Smith implemented areference-checking policy for his clients, 90 percent of which aresmall businesses and include celebrities and music productioncompanies. If a customer wants to make payments, that customer hasto supply three past business creditors as references. "I callthem and find out, Did they pay on time? Did they pay the amountthey were supposed to? If they were late, did they inform inadvance?" says Smith. "The best predictor of the futureis past performance. If they stiff everybody else, I don't seethem treating me any differently."

The biggest mistake businesses make in extending credit, sayexperts, is failing to create-and follow-strict credit policies.That means first figuring out how much you can afford to have tiedup in accounts receivable without losing sleep. Teresa Prim, afinance specialist with the Women's Business Development Centerin Chicago, strongly advises doing regular cash-flow analyses toevaluate whether the businesses have sufficient working capital tohandle various amounts of credit, as well as to determine what thepayment terms will be.

Next you need a policy for evaluating credit risk. Not everypurchase will require a credit application. "But for somethinginvolving a lot of money, you want to have an application, and youwant to do a credit check," says Fred Steingold, an attorneyin Ann Arbor, Michigan, and author of Legal Guide for Starting& Running a Small Business (Nolo). "And if you'redealing with an entity rather than an individual, you want to tryto get someone to accept personal liability for the debt."Don't forget to get everything in writing, particularly inregard to delinquencies. "The biggest legal pitfall isprobably not having the right documentation to make your case ifyou ultimately have to go to court," says Steingold.

When you do have a late-paying client, be diligent-andcreative-about collections. Offering a discount for prompt paymentin full can often inspire a delinquent customer to pay up.Don't be afraid to be the squeaky wheel, says McGuckin, whoadds that businesses tend to give clients a little too much slackto keep them.

Smith changed his ways quickly, though, after just a few badepisodes. He readily admits he has lost business from customers whofind his terms too tough. "But I get a better-qualityprospect, a better lead and a better client," he says.

If, after all is said and done, extending credit sounds like aniffy business proposition, consider offering credit by way ofplastic. True, you'll lose 2 to 6 percent to credit cardissuers. "But the onus for collecting is off [of] you,"says McGuckin. "It's a lot [fewer] headaches and a lotless paperwork."

C.J. Prince is executive editor of CEO Magazine. Shecan be reached at cjprince@chiefexecutive.net.