Open credit is a payment method with no collateral or pre-approved means of payment which is subject to agreed commercials or agreed payment terms. It is a credit to be repaid at the end of an agreed payment period (the payment terms), while the customer does not provide any mean of payment in advance.
A customer who benefits from Open credit might not hurry to repay on time, with the exception of firms and institutions working on budgets that do not profit from a late payment, and customers with high payment ethics who focus on repaying in time to sustain their reputation or stringent internal rules.
The rate of customers who do not pay on time is estimated to be between 15%-30% on average, with the margin arising from factors such as: the industry in which the customer operates, the type of product and/or service (in a continuous service where the customer depends on the organisation, the collection rate will be higher), competitiveness of the product and/or service (in a monopoly the enforcement capacity is higher unless the regulator intervenes), the quality of the product and/or service as well as the efficiency of the organisation’s collection system.
If so, the organisation that grants open credit to its customers must adopt a proactive policy of preventing delinquent debts and encourage the customer to pay voluntarily in accordance with the terms of the credit. It is possible to distinguish between two groups of customers:
Customers with open credit who pay on time without collection efforts.
From the moment we identified this fortunate population of customers, we would like to preserve it and follow over time its rates from all customers as well as the identity of the individuals that make it up and the changes that take place in the group itself.
Customers with open credit who pay on time following preventive collection measures
Preventing the formation of debts in arrears is a process that the organisation undertakes consciously with the consent and knowledge that the debt is owed lawfully to the organisation.
Unfortunately, the very definition of the profession as “overdue debt collection” puts us in front of the “original sin” of the collection world: transferring the main resources and attention to the collection of debts that have not been paid on time while ignoring, sometimes completely, the possibility of preventing new overdue debts.
It is a fact that the issue of the new delinquent debts is often not given a separate estimate and is not defined within the collection manager’s goal system. What does it resemble? As if we are so busy emptying the bathtub with a bucket, that we forget to close the faucet that fills the bathtub…
Our perception is that the collection department should act to prevent the formation of overdue debts, even before the customer has decided not to pay on time or before other reasons for late payment become noticeable, such as not receiving the invoice. Taking such steps is especially important for organisations that grant open credit to all or some of their clients, and who discover that many of the clients get used, over time, not to pay on the date agreed upon according to the terms of the credit, even when there is no question of a commercial dispute or any other reason.
In the customer acquisition chapter (Chapter 3), we described a series of practical steps that the organisation should take from the beginning of handling the customer to prevent the formation of debts, such as: correctly registering the customer’s details, reviewing matching between the customer’s order and the invoice, etc.
It is possible to make it more stringent and perform additional checks before the due date of the invoice to the customer – a stage we call the “pre-collection stage” – with special reference to customers whose volume of transactions is large in relation to the rest of the organisation’s activity (for example, any transaction over £50,000); As part of “pre-collection” we can carry out several actions that are relatively low in cost compared to the costs and efforts that will be required to collect the debts in arrears:
• Verification over the phone of the customer’s address and the person in charge of the payment at the customer’s place;
• Confirmation of delivery of the invoice on time in a “full kit” from the customer’s point of view, along with a copy of a delivery certificate or a signed purchase order, all according to the agreement with the customer;
• Checking the compatibility between the invoice and the order, in terms of the price and quantity agreed with the customer;
• Checking that the invoice has been approved for payment by the authorised party at the customer (when the payment terms are current + 30 or 60 days and more, you can check this long before the invoice payment date).
A recommended report for controlling the proportion of customers who pay on time compared to targets:
1. Tracking the proportion of customers (in number and amounts of money) who pay on time out of the total number of customers charged that month – throughout the last 12 months – and comparing these numerical data to the goals of the collection department.
2. Failure to meet the target will require prompt attention and corrective actions. We can also segment the group of customers who do not pay according to the agreement according to the type of customer, according to the salesperson, payment method, geographic location, type of equipment and service and scope of activity – and track the data over time.
We will illustrate the issue with an example dealing with a company that went from purely “firefighting” activities – that is, only dealing with the collection of delinquent debts – to a proactive policy to prevent such debts:
From “firefighting” to preventing delinquent debts
Data: the turnover of the organisation: approximately £70 million; hundreds of customers; hundreds of invoices; Common credit terms: 60 to 120 days.
Initial situation: outstanding debt balance at the beginning of the activity: about 3.5% of the annual turnover; Debt balance in arrears at the end of the streamlining process: 0.7% of the annual turnover.
The consequences according to the organisation’s CEO and CFO of the organisation – about 40% of the customers did not pay according to the credit terms, and the arrears caused damage to the cash flow; create tension with the organisation’s customers; caused intra-organisational tension with the units that provide service and sell products to customers; generated high costs for collection (personnel, telephones, letters, visits, great involvement of the CEO and the VP of Finance and the units); increased the potential for credits and bad debts.
All of these brought the CEO of the organisation and the VP of Finance to the understanding that it was necessary to change the collection method and switch to a method of prevention: taking care of the debt before entering.
Description of the collection streamlining process aimed at the target population – those 40% of customers who did not repay their payments on time:
Production and delivery of an invoice to the customer by regular mail.
After about 30 days, the customer is called and asked to confirm that he has received the invoice and that its details are clear, agreed upon and approved for payment in accordance with the credit terms agreed upon with the organisation.
Problems begin to emerge at this early stage that required immediate attention and resolution:
The customer claims that he did not receive an invoice – the organisation sends a second invoice to the customer immediately, verifies its receipt and creates a follow-up call reminder in two weeks to make sure that the invoice has been approved and forwarded for payment on time.
The customer claims that the prices on the invoice are not as agreed – the invoice is forwarded to the professional parties from whom the product or service was ordered, and they finalize the settlement with the customer. The collection personnel receive an internal update, and two weeks later calls again to verify that the invoice has been approved and forwarded for payment on time.
Additional claims, such as; “the accountant is abroad”, “I ran out of check books”, “I’m busy right now, call later” and more are answered and processed until the debt is closed according to the terms of the contract.
The problems in the process: Some of the customers are not satisfied with being called before the agreed payment date. The matter shall be resolved by a polite conversation with the customer and a commitment that if he paid on time he would not be contacted again. A problematic group are the customers who initially paid on time, but later “flowed” into the late payment list: these are about 10% of the group that pays on time, and sometimes they “fall through the cracks”. The solution is close monitoring over time of the group that pays on time.
The CEO’s contribution to the collection optimization process: It is important to note that, without the involvement of the CEO, the benefits of the process might have been be only partial. The CEO personally handles the exceptional customers and facilitates the “closing”, which allow the customer to approve the invoice and transfer it for payment. The CEO upgrades both externally and internally the sense of great importance he attaches to the process. For example, once a week he holds a collection meeting in his office, in which everyone involved in the organisation participates and in which all unusual problems that have arisen in the past week are raised – and he makes sure that the meeting is held over time as well in a busy agenda full of other issues.
The benefits of the optimization process: increase in collection; A decrease in overdue debt balances (from 3.5% to 0.7% of the organization’s annual turnover); improvement in cash flow; considerable savings in collection costs (personnel and other administrative inputs); improving end customer relations; improving relations between the organisational units concerned with collection; decrease in the number of clients transferred to legal recovery; decrease in the volume of customers’ credit; Decrease in provisions for bad debts and write-off of bad debts.