How small firms can avoid getting wiped out in a customer's 'bad debt doomsday'

This financial services pro delivers a masterclass in how SMEs can avoid being left unpaid.

By Mark O'Rourke Head of Business, Bibby Financial Services Ireland

A BAD DEBT can be detrimental to small businesses.

If you find yourself in a doomsday scenario and one of your customers goes into liquidation, most SMEs will not be preferential creditors and will not get a single cent of what they’re owed.

We recently carried out a global study of more than 1,200 businesses in 11 countries. Looking at Ireland alone, we found that a third of small- and mid-sized firms here have suffered from a bad debt in the last 12 months.

The research found that the average amount written off by SMEs each year due to customer non-payment and insolvency is almost €14,000, which is not an inconsiderable sum.

How you avoid bad debt boils down to two main points: efficient credit control and properly assessing your customers.

Credit control

It’s critical that all businesses – regardless of their size – have the correct and proper structures in place with regard to credit control.

Look at your invoicing practices and the payment terms you offer customers. Obviously, you have to pay your own suppliers and creditors, so set out the payment terms according to your own requirements.

Once you’ve established those terms, you need to state them clearly on your invoices. It must be absolutely clear to customers when you expect them to pay you. Be sure to stick to your own rules and only make exceptions in specific circumstances.

1 Mark O'Rourke, Head of Business Bibby Financial Services Ireland Mark O'Rourke
Source: Andres Poveda Photography

Be sure to issue invoices immediately and keep records of proof of delivery or sign offs. When payment is due, the customer can’t claim they haven’t got a copy of the invoice. If you keep good records, you take away any excuses or potential disputes over payments.

Be proactive and engage with customers when invoices are approaching due dates. When an invoice is falling due for payment, call them in advance to make sure you’re on the payment list.

You shouldn’t be afraid to ring customers to ensure that you’ll receive the money as promised. You’ve fulfilled your end of the transaction by delivering the good or providing the service – it’s only fair that the customer keeps their side of the agreement too.

I understand that some people are worried they’ll offend customers – but unless you’re getting paid for sales, you’re effectively bankrolling your customer’s business at your own expense.

Customer assessment

When you’re taking on a new customer, undertake the proper credit checks.

Think of it this way: if someone on the street walked up to you and asked for a lend of €50, how inclined would you be to give it to them without any knowledge of their background or situation?

That should translate into your business practices. If you’re unfamiliar with a customer, it’s incumbent that you carry out credit checks to ensure their business has the wherewithal to make payments.

Set credit limits on your customers accordingly. If they look for a bigger line of credit than what you feel comfortable with, ask for a deposit. It’s only fair – you’re basically incurring a debt in order to complete a transaction for them.

Watch out for warning signs. Most businesses don’t fail overnight – it’ll be a gradual thing, so keep an eye out for unusual behaviour.

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Source: FotoDuets/Shutterstock

It’s a bit of a red flag if customers suddenly start looking to make part payments or delay payments. If they look for additional credit, they should explain why.

Engage with your customers. If there’s an issue, have that conversation to understand what they’re going through.

Again, if you keep good records, they won’t be able to create disputes over invoicing in order to delay payment. If a customer isn’t paying you according to the terms you’ve set out, be prepared to put them on stop.

Back to my analogy of the €50: if they said they would pay the money back next week but haven’t, how likely are you to lend them another €50? Never be afraid to do the right thing for your own business.

Financial products

There are products on the market like credit insurance or bad debt protection that will protect you from bad debt due to insolvency or customer non-payment.

Banking facilities like an overdraft can help you manage any potential shortfalls. The only thing with overdrafts is they’re quite rigid – the size of the overdraft doesn’t grow with your business.

There are alternative funding options on the market like ‘invoice discounting’.

When you invoice your customers, you receive an agreed percentage of the money owed in advance from the financial service provider. The remaining percentage of the invoice – minus a fee – is returned to you when the customer completes the payment.

Be proactive rather than reactive when it comes to potential shortfalls. That’s when additional financial products come into play. Even if you only have an overdraft set up, it’s handy to have it in the back pocket.

But remember, just because you have it in place doesn’t mean you have to use it. It’s not a target. There’s obviously a cost to using financial products. If you manage them well, you’ll minimise the cost.

Mark O’Rouke is head of business at Bibby Financial Services Ireland. This article was written in conversation with Conor McMahon as part of a series of masterclasses with some of Ireland’s most influential business people.

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