By Ashwani Rathore, Co-Founder & CEO, SpiderG
Headquartered in, SpiderG is a platform to connect SMEs to financial institutions like NBFCs & banks for funding, based on the transaction data generated by SMEs in its platform.
Every year almost 80 percent of small and medium sized enterprises suffer from late payments by customers. This statistic is especially dangerous if applied to a country like India as most of the businesses in small markets are dependent on the credit structure. Sunken money in the market is the main reason many go out of business. The higher the balance of accounts receivables, greater is the risk of default on an average. Hence, it is important for SMEs and Startups to reduce the lending duration and payment delays from clients.
Here is a list of effective practices that would help you a long way in the domain :
1) Notify About Your Payment Terms Beforehand
If there is a miscommunication between the parties regarding the terms of credit and payment, it is a disaster waiting to happen. You should provide a written conveyance to all your customers about the payment due dates and company policies in case of default, even before you lend them the credit. Written copies of agreements would push them to be professional and would also give you an upper hand in case the matter ever goes to court.
2) Credit Check before Lending Big
There are two main situations where this technique can be used. Firstly, when new clients approach your business and you have no record of their credit performance. Secondly, when existing clients make sudden lending requests which are far more than their usual demands. Whatever the scenario is, you need to research about them in the market and make sure they do not owe any money to other businesses. Online tools like Cibil and Experian can be used for the purpose in India. They provide credit ratings to registered companies and details about defaults, if available.
3) Remind Them about Payments with Automated Systems
Timely reminders about due payments are of utmost importance in order to settle with creditors. But at the same time, it should not be rude or cost you future business with the customer. Therefore automated systems are often used for the purpose. One of the most innovative tools for SMEs and Start Ups in India is an e-invoicing app. It helps to send automated reminders to customers about their upcoming scheduled payments via SMS or Emails with a single click. It also has tons of other handy features that make e-invoicing processes smooth and easier to maintain.
4) Know Your Priority Status
Before you lend to customers, take a moment to analyze whether their business is directly or indirectly dependent on you. In other words, how replaceable are you? If their turnover is directly in tandem with yours, there is a low risk of default in the case. For example, you providing them a unique industry chemical which acts as an ingredient in their product's formula. On the other hand, if you can be easily cut off by them, think twice before loaning out. Transportation services can be used to exemplify the situation here. Goods can always be transferred via other means if there is a hiccup in one channel.
5) Suggest Using Financing Systems from Lending Institutions
When a customer informs you that he will miss the scheduled payment date, you can suggest making use of financial institutions to minimize the effect on your cash flow. Such institutions can pay you immediately on behalf of your customers in lieu of a small fee, which generally ranges from 2-3 percent of the bill. It is then the duty of your customer to pay back the financer according to the payment terms agreed with them. Hence it is a win-win situation for both parties and even the business relationship stays intact. Although for large credit bills, you should ask your customers instead to pay the institution's fees.
6) Keep a Track of the Leverage Your Customers Have On You
Never put all your eggs in the same basket. The same concept can be applied while lending stock on credit. To minimize the leverage your customers have on you, never lend a large chunk of your stock to the same customer, however good his credit score may be. Assuming the amount lent to be constant; the number of creditors should be as large as possible. This is because the average amount lent to the creditor is directly proportional to the probability of default by him. Hence, a big creditor wanting to pay late can have a significant effect on your cash flow or working capital.
7) Demand Part Payments from Clients
At the time the credit is issued, you can also choose to demand a part of the billed amount from the client. This can be carried out especially while dealing with customers who have had a bit tainted record in the past or first time buyers whom you have no market info about. The part payment usually hovers around 20% of the billed amount, but it can also go up to 50 percent depending upon the situation. Though, creditors who pay on time are often exempted from this practice so as to develop healthy business relationships with.
8) Guarantees from Third Parties
This is the most commonly used tool to reduce risks. A guarantee from an independent third party about the creditor will make them liable too in case things go downhill. The guarantor is analogous to a co-borrower and can be held accountable if the customer refuses to pay on time. This will act as an extra incentive for the client to be diligent regarding their payment schedules.
9) Use Online Payment Systems
As discussed in point 3, if payment reminders are being automated via innovative management software it would also make sense to provide the option of online payments to your customers. This will give them a way to pay you back immediately, as soon as they receive the reminders, hence speeding up the process. On the other hand, it would also make the payment method hassle free and save a lot of time for both parties.
10) Hire a Debt Collection Agency
This should be the ultimate resort in case of a default, when all other mentioned points fail to retrieve the due cash. There are a lot of collection agencies in the market, usually consisting of lawyers, which would contact the clients on your behalf with written notices, giving them final warnings to pay back the sum. If this fails, the agencies will help you with all the legal proceedings and handle the court cases for you, thus saving you a lot of time and effort along the way. This would make sure your business retrieves the sunk cash as soon as possible with the help of a legal framework.
Additional Tip - Use Trade Credit Insurance to minimize default risk. These insurances help protect your hard earned sales as well as Accounts Receivables.