Business Services AR Collection Service Collections Articles The Credit Decision
The Credit Decision
A SURVIVOR'S GUIDE TO
A/R Management - The Credit Decision
If you are a business owner you are surely aware of the impact A/R has on your bottom line. Traditional estimates are that for every dollar you have as a "non-performing" asset, you would need to bring in three dollars in new sales to offset its effect. Economic times are very tough today and in turn your sales efforts may not be generating the results you enjoyed in years past. These two issues can create the perfect storm. Couple this with the tight credit market and issues such as these can keep you from expanding your business, or even worse.
There is an old saying "A loan well made is 90% collected". Success in the A/R arena starts with a sound credit extension policy. Your decision to extend credit to a new client can be one of the most important things you can do to bring business into your company.
There are two basic principles that are critical to the extension of credit. They are the ability to repay a debt, and the intent to repay a debt. Your credit decision should be based on quantifying the applicant with respect to these two principles. If you can verify the intent and ability to repay the debt, the decision should be relatively easy. The credit investigation should quantify abilty and intent.
- How do you verify the applicant's ability to repay a debt?
There are certain indicators that will help you in your credit decision. The main things that would let you know whether an applicant has the ability to repay debt include the applicant's income and assets. If you are extending credit to a consumer you may want to verify their income by having them provide copies of pay checks and bank statements. When dealing in a corporate credit environment, financial statements should be enough to provide this information.
- How do you verify the applicant's intent to repay debt?
The main way to quantify an applicant's intent to repay debt is to verify past behavior. The easiest way to do this with a consumer is via a consumer credit report (the three major reporting agencies are Equifax, Experian and TransUnion). In the corporate environment, the best way is to contact bank and trade references.
THE CREDIT APPLICATION (COMMERCIAL) -
The credit application is designed to gather information that will be verified and in turn used to assist in the decision process. An application should provide the following information:
Applicant Company Legal Entity Name (including any d/b/a's)
Corporate Address
Telephone
Fax
Website
EIN
Principals' Legal Names (and SSN / DOB's / Addresses if requiring a personal guarantee)
Banking References including banker's name and contact info
Trade References (at least 3)
CPA contact information
Amount of credit applied for
Requested Terms
Place for applicant's signature (Verify the individual signing has the authority to bind the company)
Any special terms requiring a "meeting of the minds" (i.e. finance charges, late fees, personal guarantee, authorization to pull credit on officers, etc.)
APPLICATION (VERIFICATION) PROCESSING
Once the credit application is submitted, you should verify the information given.
CORPORATE IDENTITY – Most states' Secretary of State websites will allow you to verify the corporate status. When you do this, print the information and keep it with the application (you want to set up and keep a credit file). Any discrepancies should be discussed with the applicant.
TELEPHONE – Dial the telephone number and see if they answer with the name given, or another name. Any discrepancies should be discussed with the applicant.
WEBSITE – Print the home page of the website and keep it in your credit file. Look for any information that may help you with your decision (press releases, news, info on suppliers/vendors, etc.). Any discrepancies should be discussed with the applicant.
EIN There are sites to facilitate EIN verification. Any discrepancies should be discussed with the applicant.
PRINCIPALS – If you are requiring a personal guarantee you may want to verify the validity of the individual's address. If the potential risk is large you may want to pull credit reports on the guarantors to get further insight into their intent and ability to pay their personal debts as this could become a personal debt if the company defaults.
BANKING REFERENCES – You can contact their banker and request a reference, but you may not get anywhere. If this is the case you can ask your applicant to provide a recent bank statement.
TRADE REFERENCES – Most people only provide references they know will give a good reference. Still, you may be able to get some information that will be helpful. You want to know how long they have been doing business with your applicant, high credit amount, terms and payment history. If you look on your applicant's website you may find other suppliers/vendors you might be able to get a more objective reference from.
CPA INFORMATION – You don't need to contact the CPA during the processing period, but should the applicant go into default the CPA may be of value at that point.
Make sure you document all the information you garner during the credit investigation. Keep all the information in the file as you will need this in the event of default. Once you have completed the investigation you will need to determine the amount your are comfortable in extending to your new client.
Any discrepancies need to be discussed and if you feel the explanations are insufficient you may want to reconsider extending terms to the applicant. The information in the application should be given freely. If the applicant is hesitant about providing information it could be indicative of a problem with their intent and/or ability to repay your company for goods or services provided on credit.
The credit application is a valuable tool in the event of default. Keep the application and all other information gained through the application process in the credit file for future reference. You may want to scan the documentation onto your hard drive as well.