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Just as a car needs petrol, a business needs cash to keep going. But what happens when small and medium businesses run out of cash? How do they run out of cash in the first place? Tony Markwell examines ways to manage debt collection and credit policies effectively.

Active ImageManaging debt collection is a process many SMEs neglect, often at their own peril. Competing business pressures and the desire to increase operational volume and deliver mean many small and medium businesses don’t devote a lot of time to the debt collection process. In some businesses the debtor book is one of the most significant business assets.

An active debt management and collection policy is one of the most vital keys to managing cash flow and liquidity.

All businesses have a need at one time or another to offer credit to their customers but, unfortunately, this isn’t always possible. And when you can’t pay your bills on time, what becomes of your business? Do suppliers stop providing key raw materials? Does production falter? Clients often ask how their profit and loss statements look so healthy when they can’t seem to pay their bills. The answer lies in managing working capital levels and ensuring you have sufficient liquidity at your fingertips at times when you’re going to need it most.

In the accounting life of an SME, there is typically a cycle of purchasing products, manufacturing these products and provision of services, followed by, of course, the ultimate billing to the customer or client and then finally the collection of cash.

The time between the purchasing of goods or payment of wages to the employee, and the eventual payment by the client or customer, means that the business will have a working capital need which can be quite easily quantified in dollars for most businesses. How efficient the business is in minimising the time cycle between these stages will determine how much working capital is required by that particular business. Ultimately, this determines how successful that business is in terms of efficiency of capital invested by the equity owners.

Where there is a significant investment of the owner’s own capital in the business, particularly in SMEs, maintenance of an efficient working capital level will often determine the timing of payments to the owners (as they very often pay themselves last).

I recently witnessed a good example of the importance of managing cash flow where two businesses the same size and in identical industries were compared. It became apparent that the different debt collection and working capital processes dictated that one business needed an extra $3 million in working capital than the other to operate. This increase in working capital derived no extra return for the owners and in effect cost the owners significantly.

Policy Guidelines

So, what can SMEs do to manage their cash flow and speed up payment times? Start with the basics, such as a good credit policy. Business owners need to have a good credit policy covering all parts of the credit cycle. This could include:


•    A policy to determine if a customer deserves credit and on what terms credit should be provided. Bad credit can often be the ruin of a business if margins are tight and working capital is stretched.

•    A policy to determine if security is needed for credit, or is possible to obtain. Particularly when dealing with new customers, care is needed to ensure that a sales-driven focus doesn’t overrule the sensibilities of providing credit to the customer.

•    A policy to consider how to ensure credit should be provided. If a customer’s trading conditions change then the business needs to regularly consider whether to continue providing credit to that business. Trading with a customer on ‘cash on delivery’ (COD) terms while other accounts remain unpaid is fraught with danger, particularly if that customer ends up in liquidation.

•    A policy to follow up and collect debtors, and how strongly to enforce payment. Most businesses have the standard 30-day terms, however most businesses pay on 43 days*. Therefore, it appears most businesses don’t enforce their own credit terms.

•    A policy on how to collect bad or doubtful debts, such as offering a discount for early payment. Generally this is only an option when already running an overdraft.

•    Also, look at your competitors’ credit terms to ensure your offer is one of the best, or at least aligned to that of the market. 

Payment Solutions

There are a number of newer technologies available for businesses to consider when deciding how to request payment from their customers. This can ease the process of payments—and payment speed—from debtors. Options include cheque mailing (still very common), direct credit (where the customer puts money into your account manually), direct debit (where you draw direct from their account, although this can be hard to get customers to agree to), and EFTPOS/credit card/Bpay solutions.

Debtor financing through a growth period can be a real headache for businesses that might have already extended their bank credit to its limit. In these cases debtor invoicing and factoring options can be attractive. Be warned, however, debtor factoring can prove costly, especially for SMEs.

Any debt collection policy needs to be carefully matched with your customer base to ensure that follow-ups for payment don’t destroy the business relationships already established.


It is worth noting the importance of paying your creditors on time as well. Debt collection can play havoc on businesses paying their bills on time, not only could a business damage its supplier relationships by not paying promptly but the business could also risk supply of its key materials or services. It’s simply not worth it!

Grant Thornton’s International Business Owners Survey (IBOS)* shows average payment terms in Australian SMEs dropped seven days on average in 2006, down from the 2005 figure of 44 days to 37 days.

SMEs have faced quite buoyant economic times over the last 18 months (and longer in some states) and this has led to decreased pressures on cash flows in many areas. Over-reliance on ineffective systems in good times means a business may be vulnerable if things take a turn for the worst.

In terms of the national landscape, IBOS found that Australia ranked fifth among all 36 countries that participated, behind Russia, mainland China, Germany, and Poland. Russia on average collects payments within 26 days whereas on the latter end of the scale, companies in Greece take up to 84 days. Interestingly, the US is sitting on 40 and the UK on 47 days for the time in which sales invoices are paid.


Debt Collection Checklist

•    Determine the financial impact and level of working capital needed for your business.

•    Provide credit astutely and regularly review those people to whom you are already providing credit.

•    Develop and enforce sensible credit policies.

•    Consider finance alternatives to your working capital needs.

•    Consider alternative payment methods to speed up your payment times.

* IBOS: Grant Thornton's International Business Owners Survey (IBOS) 2006, covering 30 countries and some 7,000 companies worldwide, is a valuable source of global business information, gauging opinions on the economic outlook and company expectations for the year ahead. Visit www.grantthorntonibos.com for more details.

* Tony Markwell is director of Grant Thornton Brisbane and has some 20 years experience in business advisory services (www.grantthornton.com.au ).

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