Timely payment boosts profits.
Your slow-paying customers drain cash from your business, sometimes requiring you to borrow money to maintain a liquid position. This makes little sense when you stop to consider that the size of some of the customers you are helping to finance dwarfs your foundry.
However, keeping a close watch on both your customers and your own receiving schedule, as well as revising your collection practices, can eliminate many problems and ensure timely payment.
Average Collection Periods
Besides keeping track of which customers are behind and by how much, you should be aware of your average collection period - accounts receivable divided by sales per day. It may be much longer than you think.
Your terms may be net 30 days, and you may think customers are generally paying within 35-40 days. But when you sit down and think about it, you may find that the average collection period is closer to 60 days.
Accurately knowing your average collection period is crucial to any foundry, since financing accounts receivable can be a significant drain on working capital. The longer the collection period, the more working capital is absorbed by it. Thus, shortening the collection period frees up capital for other uses.
The safety of your receivables is also important. As a rule, the shorter the average collection period, the more likely your customers will pay. Longer periods increase the danger of being stuck by some sizeable account, In our industry, a collection period of 70 days should be considered extremely dangerous.
It is good practice to calculate your average collection period once a month and consider it a key barometer of financial health. If the collection period begins to lengthen, it may be that those who owe you are having financial difficulties. If that is the case, its important to be aware of it as early as possible so you can plan corrective measures.
Of course, with some large customers, it's a matter of purchasing policy to work off their suppliers' money to the greatest possible extent. If a customer can constantly maintain a $5 million balance in receivables over 30 days old, he is, in effect, adding $400,000 a year to his bottom line. These customers take special handling, and a variety of threats, incentives and special techniques should be employed to get them to pay within 30 days.
However, it's important to remember that the average collection period doesn't tell the whole story. You will also need to analyze your accounts through an aging schedule, which shows how specific accounts are doing and where the trouble spots are.
I Better Collection System
Once you know your average collection period and have recognized the trouble spots, you should set up a more efficient collection system. The time and effort spent in this area can really pay off, Here are a few aspects to consider:
Invoice Promptly - Customers seldom pay before receiving a bill, so the longer you delay, the longer it takes for payment. Even one day can be costly on a large order.
Maintain Effective Collection Follow-Up - As soon as the account becomes overdue, you should make collection efforts. Postponing those efforts to maintain the goodwill of an overdue customer is bad practice. However, if it's a trusted customer who is in temporary difficulty, work out a mutually agreeable payment schedule. Then, watch carefully. If payment is chronically slow, goodwill may not be worth the time, lost interest and the real possibility of total loss.
Use a tickler system to call the delinquent account on the promised date of payment. Then, if the check hasn't arrived, call again to refresh the customer's memory. Letters, while not as effective as phone calls, are also useful in a collection program.
Review Your Credit Terms - Are they consistent normal industry practice, as well as legal standards? If you need a lot of cash on the first of the month, arrange your billing cycle to encourage customers to pay by that date. Many foundries offer discounts for payment within a specific period. While there is certainly an advantage in offering discount terms for payment within 10 days, you should realize that getting the money 20 days sooner could be costing you the equivalent of 36.59% annual rate of interest. An expensive price to pay!
In setting up an efficient collections system, make sure those who are phoning your customers strike a good balance between being sympathetic and firm. They should be knowledgeable enough to intelligently discuss credit problems and solutions. And they should realize the longer an account is overdue, the more difficult and costly it will be to collect.
Try to bring your sales and marketing people into the collection process only as a last resort. Making them collection agents greatly complicates their relationship with the customer. A good collection program - one that uses the average collection period and prompt billing and follow-up - should make involving those people unnecessary.
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|Author:||Warden, T. Jerry|
|Date:||Feb 1, 1995|
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