Promptly and In Full: an Action Plan for Payments

As any business owner or manager knows, late payments and bad debts can stifle a company’s growth, depriving it of much needed funds for expansion and development. In more extreme cases, late or bad payments can be the difference between corporate success and failure.

Since small and medium enterprises (SMEs) have a more limited capital base than their larger competitors, the cash flow of the business depends very heavily on receiving timely payments. Cash flow continues to be a key concern to owners of SMEs, given their size and more moderate financial means.

While some business people believe it just bad luck if a customer stops paying, any smart business manager will tell you that luck has nothing to do with it.

The key to a company getting paid promptly and in full is having access to information that warns it when a customer is likely to be in financial trouble. When evidence suggests that a firm is under financial stress, the company and its treasury department can take preventive steps such as tightening credit terms and aggressively pursuing debts owed. This means that even if the debtor firm ultimately fails, your company may be one of the few that has been paid prior to the collapse.

The first step is to understand what the payment patterns are like in the industry in which your customers operate. If payment speeds in an industry are slowing down, then there may be underlying problems that are causing its member firms to hold back payments.

Fortunately, several credit information companies regularly publish data on industry payment behaviour. Among the examples, the DP SME Commercial Credit Bureau in Singapore publishes the
Days Turned Cash National Average
(DTC), a tool for measuring the number of days that a company takes to pay its creditors once a debt falls due. The DTC is based on the payment behaviour of more than 120,000 corporations in Singapore.

The DTC also provides an overall picture of the payment behaviour of firms operating in specific industries. For example, SMEs in the retail sector have increased the speed they pay bills by 21 days over the past year – from 63 days at the end of 2013 to just 42 days by the end of 2014. While the increase in payment speed appears to be a positive trend, much will depend on the forces at play within the sector.

Born of Necessity

The retail sector has had an uphill battle since the Singapore government’s changes to the foreign talent laws in 2011, when it liberalised some immigration policies while tightening others related to lower-skilled immigrants. Retailers have been forced to rethink their business model and had to wean themselves off cheap labour and find ways to improve productivity. They are also under pressure from increased rental costs. So the creditor companies are imposing stricter lending terms on retail companies – and with shorter payment terms has come faster debt payment in the past year, as evidenced in the table below.

DP Group DTC table

The debt payment speed of SMEs showed a deterioration in the first quarter of 2014, from the fourth quarter of 2013. For the first time in two years, companies were taking more than 40 days to pay bills during Q114. While the percentage of severely delinquent debts also rose, from 18% in Q413 to 29% in Q114, analysis of the data shows the deterioration in payment behaviour was not reflected across all industries.

The deterioration in Q114 also saw SMEs getting serious about credit checks. The second quarter of 2014 marked the first improvement in the data for 18 months, with companies paying their bills seven days faster in Q2 than they were in Q1. The momentum of increased credit vigilance amongst SMEs rolled over to the third quarter of 2014 as SMEs took an average of just 36 days to pay their debts – one of the fastest payment cycles in the past five years.

Undermining efforts to tighten credit controls and the vigorous pursuit of debts, external forces also pose a threat to industries’ cash flow. An example is the shipping/marine sector, which recorded an increase in DTC of nine days between Q314 and Q4 and cited the trickle down effects of falling oil prices in late 2014. With a further drop in oil prices anticipated and weak market sentiments, SMEs in the sector find an added pressure on their ability to make prompt payments as they fend for themselves in such uncertain times.

When the payment trend within an industry is deteriorating then the next step is to look at the performance of individual customers that your company is doing business with.

Many SMEs are unaware that they can purchase a business profile, which contains background information on a business customer they are thinking of extending credit to. This profile provides an overview of a business customer’s shareholding, capital structure, auditor and officers. It represents a cost-effective way of understanding who you are doing business with.

A more thorough search can be made to find out information such as changes in address, changes in primary activities and shareholders, as well as financial information. The search can even tell you how often the company has been subject to similar scrutiny from others. All this information will help you make a decision on the extent of credit that you should give to a customer.

Litigation searches are another way by which SMEs can assess the potential risk of a customer. A litigation search will tell you if a company has any small claims against it, or whether it has attracted a high number of legal proceedings.

SMEs can also reduce the risk of bad debts by checking a firm’s credit ratings. Credit ratings are an excellent tool to assess the payment abilities of a business; one with a high credit rating has a lower probability of default and those with a low credit rating may have a higher chance of non-payment.

Pooling Resources

Arguably the most effective way to protect your company from bad debts is to join a SME credit bureau, where a large pool of businesses and companies share the payment records of their customers with other businesses. The credit bureau receives the payment data and monitors the payment trends and habits of all the companies for which it keeps records.

Should a firm start failing in its payments and is incurring bad debts, then all the members of the credit bureau will be notified accordingly. This move forewarns other companies that may be intending to work with the flagged company, helping them avoid a potential future problem.

Ensuring that you get paid requires a combination of strategies based on good business information. The right knowledge will help your company make good lending decisions at the start, and be able to respond quickly when circumstances change.

Ultimately those companies that are proactive in managing their debts are the ones that will get paid, while less diligent ones will be left wondering why they appear to be getting more than their fair share of bad luck.

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