STAFDA Cashflow Consultant: Missed Profit Opportunities

Using terms and conditions of sales to say yes while being confident of payment.
Abe WalkingBear Sanchez, president, A/R Management Group, Inc.

All human activity, from the most simple, like crossing the road, to the more complex activity of running a business, requires a starting point and a direction.

Most people would agree that in today’s constantly changing business environment doing things as they were done 50 years ago would result in much lower levels of efficiency and productivity, if not outright failure. Yet, many if not most CEOs and business owners still view and manage a critical area of their business the same way CEOs and business owners did in the 1950s.

What is the best starting point for B2B/trade credit management, the area involved in up to 90 percent or more of all B2B/trade sales and which is responsible for creating and managing one of the largest and most liquid assets of a business? Is it to limit/avoid risk or is it to contribute to the profitable expanded movement of products and services?

How the performance of the credit management function is measured will answer the question and will determine the road you are on and the direction you’re heading.

In the 1950s, and prior to that, credit was defined as “trust and faith that a borrower/debtor had the ability and wiliness to repay loans or to pay for goods and services provided based on payment being due at some later date.” Based on this definition, performance was measured on delays or failure to pay; DSO (days sales outstanding) and percent Bad Debt.

When I speak to CEOs and business owners, I start by asking a few questions to establish a baseline for their thinking on  B2B/trade credit management. If it’s a small group, I ask each person to respond to the questions.

My first question is, “What percent of B2B/trade sales involve payment at a later date?” The answers vary, depending on the business, from none to 100 percent.

Recently one of those answering “none” was the managing partner of a commercial law firm. I asked him if there wasn’t any monies due from work done for clients. Yes, he said, sometimes the partners’ work would exceed the original retainer and that they would continue to provide further services; so he would guess that some credit was extended. I later learned that this law firm had several hundreds of thousands of dollars from client companies due and outstanding.

On average, 90 percent or more of B2B/trade sales involve the use of credit terms.

The next question asked is “A/R (accounts receivable), short term money due from the sale of products and services based on payment at a later date, make up what percent of the total assets?” And again the answers will vary from a lower percent from those businesses with large capital, equipment, plant, facility investments to a high percent for personal service/professional providers.

On average A/R makes up about 40 percent of the total assets of a business and is often one of, if not the largest assets.

Having established the sales role for credit and the size of the A/R asset, I next ask, “Where is the credit management function located within the business operation and how is it’s performance measured?”

Most CEOs and business owners still have credit management located within accounting or finance and are measuring its performance based on DSO and percent of Bad Debt . . . just like they did 50 years ago.

To establish a new “starting point” for credit management, I have the group itemize the costs/investment made in extending credit to business customers.

Once a new customer asks for credit terms as part of a purchase there are the costs of gathering information (should be done by sales); there’s the evaluation and investigation of the gathered information; the consideration of the “product value” at that time; and there’s the establishment and possible sale of terms and conditions of sale.

If the customer accepts the T&C, there is the cost of setting up the account and as products/services are provided the customer must be billed and payments must be processed — both involving cost.

If the customer doesn’t pay within terms, they need to be contacted and the reason behind the non-payment determined and corrected (not collections).

All of these item costs of doing business associated with extending credit terms can be bundled together as additional administrative expenses.

There is also the cost of carrying A/R, the time value of money and, while most companies don’t think of themselves as “banks,” this cost can be considerable when you think about the size of the A/R. And then of course there’s the cost of Bad Debt should the customer default on payment and the credit sale is written off as a loss.

Why? Why do it?
“Why create the costs associated with extending credit?” is the next and last opening question I ask groups. Their answers:

1) Because there are customers who require that vendors/suppliers provide their products/services and then give them time to determine if they received what was ordered and to process the bill for payment.

2) There are customers who need time to add value to the products/services they have purchased and to sell to their own down-line customers and be paid by them before they can pay their own creditors.

3) There are competitors who offer credit terms; it’s a standard way of doing business in their industry.

In each of the above scenarios, if credit terms are not extended, profitable sales are lost.

The only reason any business extends credit terms to business customers is in order to get a profitable sale that would otherwise be lost. If customers can and are willing to pay at the time of purchase, credit terms should not be offered; just grab the money and save the costs involved with extending credit.

Credit is the selling of a product or service based on payment at a later date. It is a lubricant of commerce that allows for the expanded movement of products and services. It is a sales support function. Yes, there’s risk associated with extending credit, but risk avoidance is just one factor involved and must not be the primary focus. Credit management is NOT an accounting function and does not belong in the accounting area.

Walls and Neighbors
Fifty years ago, sales and accounting were like neighbors who lived with a high wall between them. If asked about their neighbors, sales guys would describe the accounting guys as “bean counters,” who didn’t understand or appreciate that without sales going out and bringing in business, no one else in the company would have a job.

If asked about their neighbors in sales, the accounting guys might say they were overpaid and overfed, didn’t bother to do the details and needed someone to pick up after them. Fifty years ago, the job of credit management was about making sure sales didn’t give away the store.

In 1987, during a speech commemorating the 750th Anniversary of Berlin, Ronald Reagan challenged Mikhail Gorbachev, the leader of the then Soviet Union, to take down the wall that separated East and West Berlin, “Mr. Gorbachev, tear down this wall.”   

The credit function should be placed between sales and accounting, should be called “customer sales support” and should include customer service, credit approval and past due A/R management (not collections).

New Expectations, Better Results and Better Neighbors
Rather than focus on DSO and Bad Debt, companies should focus on how their credit management function can best contribute to profitability. The new profit expectations and performance measurements should be that credit will find a way to approve 100 percent or more of the total amount of credit applied for by customers.

The expectation for past due A/R management (not collections) should be to “complete the sale,” to keep credit customers paying and buying. Yes, there will be a small percentage of past dues that represent a potential for loss and need to be identified early and controlled, but that is secondary to cash flow and repeat sales.

In the course of approving credit and managing A/R, including dealing with all the things that can and do go wrong, the customer sales support function should identify and communicate the sources of things going wrong somewhere so as to achieve new efficiencies and lower costs of doing business for all involved in a credit sale.

The Four Stages of Change
The best information is worthless until put to work. When I finish presenting to CEO and business owners’ groups, I ask one final question, “What, if anything, will you do with the material presented today?” After the groups have a chance to voice what they plan to do and to clarify how to go about implementation, I remind them that change is hard. There are four stages to bringing about change:

1) Expect resistance . . . including in yourself
2) Strive for small successes and don’t try to change everything at once
3) As one change takes hold, introduce another . . . stress is needed to bring change
4) Remind and Pay people for the change you want.

I also remind them that failure is not a bad thing, that it’s a lot like climbing a ladder on your face.

New profit opportunities are too often being missed because CEOs and business owners still cling to an old “risk avoidance” mentality regarding a critical business function.
Sales Support is why credit exists today and that must be the new vision that drives the credit area of business and how its performance is measured.

The past is a very strange place indeed; people behaved differently there. CS

Abe WalkingBear Sanchez is the developer of the copyrighted Profit System of B2B Credit Management: a proven philosophy and set of methodologies that move the credit function from being a cost center to a profit-driven area of business. President of A/R Management Group,Inc. (, Abe WalkingBear Sanchez  is also a founding member of the international Profit Centered Credit Group.