Running a business is a balancing act. You're in charge of handling every aspect of the company, hiring the right people, and keeping everything on the right side of the law.
One of your most important roles as the company's founder is managing the money. Capital is the lifeblood of a business, and if you don't learn to manage your money, your company will most likely die.
Properly handling finances can extend your runway and give you more time to work on your business.
As a small business accountant who have worked with over 10,000 SMEs throughout the last four years, the team at Accounts and Legal have a knowledge of succeeding, and we are ready to share that with you.
As part of our new “Best Practice” series, we will be talking you through a range of topics, all designed to help you fully understand your business, evaluate it against our views on best practice, and ultimately arm you with the knowledge you need to take your business to the next level.
In the series, we will take you through the likes of budgeting, forecasting, management reporting, project evaluation, stock control and fixed assets, to name a few. This week we focus on Debtor Control.
If company starts to sell on return of cash, then it decreases the level of company’s sale and profitability. On the other side, if company promotes credit sale, it can increase the risk of bad debts. So, it is required to control and to manage debtors.
Debtor control is the process of decisions relating to the investment in business debtors. In credit selling, it is certain that we have to pay the cost of getting money from debtors and to take some risk of loss due to bad debts.
To minimise the loss due to not receiving money from debtors is the main aim of debtor control.
Offering credit often encourages customers to speed up/increase the amount of their spending. Some businesses offer credit to gain a competitive advantage in their market.
Balancing the potential for increased sales with the risk of reduced cash flow is an important part of managing risk in your business.
Reduced cash flow - you may wait for customer payments, which reduces your ability to purchase replacement products from suppliers.
Reduced profit margin - funding credit sales reduces your profit margin. Usually, the cost of this only shows up in your profit and loss statement. Bare this in mind when pricing your products and services.
Large debts - it goes without saying that unpaid debts can pose a risk to your business.
A credit check is one strategy you can use to manage the risk of bad debt. Before you offer a customer credit, have them complete and sign a credit application form or agreement.
NB. Carrying out a credit check on the likes of a large PLC can be fairly straightforward given the ease of access to necessary information, however, if your client is a small company or individual, it can be a tricky process to gather all information needed for a credit check.
Sending a clear message to customers about when and how you expect to be paid will help you manage cash flow and maintain good customer relationships.
Payment terms define what credit facilities you will offer customers. Standard terms for credit include payment within 7, 14 or 30 days after the invoice date. Setting your customers' terms shorter than your suppliers' terms can help you avoid being out of pocket.
Many businesses exposed to credit risks will offer other types of payment options or request that customers pay part of the invoice before or during service delivery.
Things to consider when setting payment terms include:
types of payment
early payment schemes
customer credit worthiness.
If you decide to offer a credit option, consider making it your policy to conduct a credit check, particularly if you risk being exposed to a large single debt. The credit check application form should specify all terms and conditions.
Make sure your payment terms are clearly displayed on your invoices.
Your payment and credit policy should support your business goals. A clearly defined payment and credit policy helps promote understanding and reduce conflict with customers over payment and credit issues.
All staff should be trained to implement your policy. Document and publish it for all customers and staff to see. This is a good way to promote your business as transparent, fair and honest.
Your payment and credit policy should include all of your payment terms. It should also include sections that tell staff how to:
accept payment - including receipting procedures for cash and credit card payments
extend credit - enabling a number of staff to implement decisions on how you will check client credit worthiness
collect debts - when and how to begin following up outstanding debts.
Many organisations have a dedicated credit control manager or team. Their primary objective is to ensure that cash is received from the customer within the organisation's credit terms, which are in the form of a predetermined number of days (for example, 30 days from the invoice date).
Other activities/responsibilities that are likely to fall within the scope of the credit control team include:
Recording cash receipts and payments
Establishing follow-up procedures which usually include phone calls, emails and letters, with different levels of escalation
Reconciling the sales ledger/debtors ledger to ensure that all payments are accounted for and are properly posted. This involves matching the detailed amounts of unpaid customer debt to the accounts receivable total stated in the general ledger. This matching process is important, as it proves that the general ledger figure for receivables is justified
Preparation of monthly, quarterly or annual management information/reports detailing outstanding balances and other accounts receivable activity.
Being consistent when chasing debtors will help you to recover debts while maintaining good customer relationships.
Contact customers quickly about overdue invoices. If you offer payment terms of 30 days, begin following up debtors when payments are 7 days overdue.
We recommend the following steps when chasing an overdue payment:
Send a statement requesting payment and indicating this is a reminder or final notice.
Telephone the customer and remind them to pay the debt. Ask them if there is a problem. If they offer no reason, ask them to settle the debt by a specific date.
If there is a cash flow problem, try to arrange a payment plan that suits both you and the customer.
If this problem with overdue payments is ongoing, review the customer's credit terms.
If the debt is not settled within the agreed time, you may want to consider mediation, debtor finance or debt collection services.
On occasion, we have seen debtors chased for payment through the form of legal action, and in the most serious cases this practice can be a successful route for a business to take.
Legal action should begin with a letter to the customer which chases up the payment in question. This process can generally be repeated two or three times.
Should the debtor fail to comply at this point, the next step is to send a statutory demand letter. This is a legal warning which bounds the debtor to reply, or face consequences.
If the debtor still refrains from replying, you have two options. Firstly, you can use the failure to comply as a cause to wind-up the debtor's business. Secondly, you can begin a court process to reclaim the money owed by the debtor.
Claims up to the value of £10,000 are generally settled in the small claims court, while claims which exceed that value are taken to the county court.
Keep an eye out for our "Best Practice" series as it comes online every week, filled with information specifically tailored to help your business perform at its greatest level.
In the meantime, if you'd like to learn more about how our London accountant can help you, please get in touch.
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