Giving Credit Risk Its Due

The current economy is prodding finance executives to try to detect potential deadbeats by using such things as automated alert systems.

Customers are the lifeblood of any business. You wine and dine them, promise to be their partners, and shape your strategy around what they want. But these days, customers may be more like vampires if their own cash-flow woes hamper their ability to pay your bills.

With more and more small companies declaring bankruptcy — Chapter 11 filings were up nearly 70% year-over-year as of March — or simply closing up shop, more finance executives are taking a tougher stance on managing customer-credit risks. Or at least they’re trying to take a tougher stance.

Pam Krank, president of Credit Department, an accounts-receivable consulting and outsourcing firm, says CFOs are “finally putting credit risk at the top of their lists” for the first time in her 18-plus years in business — but execution, in many cases, is lacking.

“We still find that many companies are not looking outside traditional credit practices to proactively assess what their risks are,” says Krank. For example, some don’t analyze risk at all, but just “go through the motions” by ordering Dun & Bradstreet reports without truly reading them.

Others “are still analyzing risk maybe once a year, instead of stratifying their customers so they can monitor the high-risk ones monthly or even more often,” says Krank. “CFOs are often very surprised by what’s actually happening in their own companies.”

Still, the current economy is prodding many to latch on to what Krank would consider best practices. Kevin Amoth, CFO of privately held lumber wholesaler Silvaris Corp., wanted to minimize the surprises he faced from credit risk, considering that most of his 1,500 or so customers are wood-crate and pallet makers that get paid slowly themselves. To that end, he instituted a new credit policy in January: his staff must refresh the credit file for any returning customer that hasn’t ordered in the previous six months. “If they buy from us at least once a month, as many do, we can monitor payment history,” he says. Amoth’s staff does this in large part with the aid of a new automated alert system that flags customers that are more than five days beyond their normal payment date.

That credit-file refresh involves not only ordering a new Dun & Bradstreet report but also checking two or three trade references. “We have relied more on reference checking than anything else in the last six months,” says Amoth, “because we’ve found that credit quality is deteriorating faster than it can be updated in formal reports.”

Although the checking programs have been a relative success, they’ve come with some cost, says Amoth. With an estimated 40% of Silvaris’s 1,500 customers having some difficulty with cash-flows, his team has denied many of them credit and required others to pay off their outstanding balances before extending them additional credit. “That has caused some strain in the customer relationships,” he says, “but we’re holding the line on potential for credit loss.” He’s also been able to curb the size of his credit team, thanks to the automated red-flag tool.

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