Does Your Collections System Need a Checkup?

If your accounts receivables are threatening the health of your business, it could be time for a system overhaul.

You know how important preventative maintenance is for yourhealth. You see your doctor for regular physicals and go forcheck-ups with your dentist. You most likely bring your car in fortune-ups, too. But what about your business? A dose of preventativemaintenance can go a long way toward keeping your company in goodhealth.

One area that can usually use some TLC is your overduereceivables. Overdue accounts can cause havoc with company cashflow. If your receivables are giving you headaches, a reviewof your systems may help you find ways to fix your collectionproblems.

For example, let's say Jack is a human resources consultantand has a staff of five and a solid roster of business clients. Buthe regularly finds it difficult to make his weekly payroll. Soundfamiliar? A quick review of Jack's financial statements isencouraging, until we find that Jack is carrying close to $100,000in accounts receivable, half of which are more than 90 daysoverdue. This presents a challenge because Jack can't writechecks off unpaid receivables!

Can you identify with Jack's experiences? Are you inthe middle of a cash crunch? Cash flow problems happen for one verybasic reason-customers don't pay in a timely manner. But thereal issue you have to address is the underlying cause of theselate payments. Why aren't your customers paying on time? If youcan discover the primary reason and make needed changes, you canusually turn the problem around.

There are generally two reasons customers don't pay theirbills on time. Either they're not happy with the product orservice they've received or they've got their own financialproblems. Recognizing this, you can take steps to minimize yourcollection problems.

The Unhappy Client or Customer

When it comes to paying what they owe, "The happy customerpays quickly; the unhappy customer pays late (if at all)." Soone way of improving your collections is to make sure yourcustomers are satisfied. Here are a few ways to do that:

  • Use a written contract with your customers. By clearlyspelling out in writing what products and services you'reproviding and your payment terms, you'll help avoidmisunderstandings.
  • Keep your customers well informed when it comes to theirorders. If there's a delay or some other problem, let themknow how you plan to deal with it.
  • If a problem does arise, remember that "The customer isalways right." In other words, you can't win byarguing with an unhappy customer. Therefore, it's in your bestinterest to find a way to turn him or her into a happy customer.It's definitely a challenge, and one we've all faced, butif you're successful, think of the impact. How many people doyou think your now-happy customer will tell about your first-ratecustomer service?

The Financially-Challenged Customer

What about the customer who's not paying you because offinancial problems? Once you're in this situation, it'susually too late to take any meaningful action. But let's lookat ways to improve your intake system to help avoid this problem inthe future:

  • Get your payment upfront. It's certainly the mosteffective way to avoid collection problems. Clearly, however, youhave to be consistent with the standard practices in your industry.There are some businesses that may not be able to get up-frontmoney from their customers. For other businesses, however, thisshould be standard operating procedure. As a consultant, forinstance, Jack should be requesting a 50-percent retainer upfrontbefore beginning work on a project.

The upfront retainer fulfills several important functions.First, it shows that your customer is committed to theproject-it's a sobering decision point when they have to writeyou a retainer check. If he or she is not willing to show thatcommitment, it's good to find that out before you start doingany work for them. Second, it proves that your client has thefinancial ability to pay your bill. Lastly, it cuts down on thetime you'll need to spend chasing receivables.

  • Be careful who you lend to. While you may not think ofyourself as a bank making loans, if you're supplying goods orservices on credit, then in effect, you're acting like a bankto your customers. Would a bank agree to a loan without checking acustomer's creditworthiness? Of course not. And neither shouldyou. So have your credit customers complete a credit applicationand review it carefully. Be sure to check those credit referencesand find out if their payment history is good.
  • If your customer is a small business that'sincorporated, have the owner personally guarantee theobligation. Otherwise, you'll be limited to the assets ofthe business entity while the owner's personal assets aresecure. There's another benefit to getting a personal guaranteefrom your customer: If he's got cash flow problems and has tochoose which supplier to pay, wouldn't you want your invoice togo to the top of the pile? It's more likely to do so if thebusiness owner's personal assets are on the line.
  • Make sure your contract protects you. If you end upsuing a customer to recover what you're owed, you'll wantto be able to collect interest, attorneys' fees and othercollection costs. Unless your contract provides for that, however,you're not legally entitled to recover those expenses.

It will take a little time to review your accounts receivablesystems, but it's time well invested. By getting your systemsin order, you'll improve the health of your business and saveyourself major headaches down the road.

Judy Gedge is a West Hartford, Connecticut-based lawyerspecializing in small-business law. She's also the authorof A Legal Road Map for Consultants. She can be reached

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