• Strategy
  • CFO.com | US

Companies Play Credit Catch-Up

Credit managers see a positive sign of economic growth as their customers begin to pay off their overdue balances.

It’s payback time. After months of stretching out their payables, companies are starting to catch up on their debt with their suppliers, according to the National Association of Credit Management.

In turn, trade creditors have begun to see improvements in their collections during the past two months. Chris Kuehl, the NACM’s economic analyst, says this change is likely coming from companies preparing to grow their business once again and knowing they will need more credit from their suppliers in the future. It’s a trend that has occurred during previous recessions, he tells CFO.com.

“When the recession is seriously biting, companies become very cautious — probably overly cautious — in paying back what they owe,” says Kuehl. “They’re trying to maintain cash flow.” However, when the economy improves and companies need some financial help from their suppliers to expand, “they can’t ask for new credit when they still have old debts to pay,” he adds.

Improvements in collections is just one sign that things are getting better, in the NACM’s view. Trade creditors have reported more creditworthy applicants and have rejected fewer credit applications. In fact, the trade association notes that for the first time in more than a year, its monthly index has passed 50, which indicates the economy is in growth mode.

The last time the index — which is based on survey results of about 1,000 trade credit managers questioned during the last 10 days of every month — hit above 50 was August 2008. The monthly measure of credit availability hit its lowest level in its seven-year history in February, when it fell to 39.7.

If companies continue to pay off their overdue balances, the index will likely reflect further improvement next month, even though a significant source of smaller companies’ credit has recently dried up following CIT Group’s bankruptcy filing. For now, the commercial lender’s uncertain future may have little effect on the index, Kuehl explains, since manufacturers tended to use banks over CIT and the filing was largely expected.

However, the spring could be truth time, if retailers decide to ramp up their inventory levels for the 2010 holiday season and have trouble getting credit, notes Kuehl. “If they can’t get a substitute for CIT money they used to get, it will put some constraints on their inventory purchases,” he adds.

For now, nearly all of the favorable and unfavorable indicators the NACM uses to calculate the index have suggested business-to-business credit dealings have improved in the past two months. Favorable signs include sales, new credit applications, and amount of credit extended. Credit managers have reported a decline in unfavorable measures, such as late payments, disputes, credit rejections, and bankruptcy filings.

Kuehl characterizes the index as a “leading indicator” because credit managers are focused on the future prospects of their customers’ ability to pay and are thinking one to two months out when they express their current take on their work status.

 

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