- Posted by: ntadmin
- Category: Blog
Debt collection is a stressful job for businesses, and although there is no sure shot way to identify a customer who will default, some early signs will always help to cut down on bad debt in your books. Usually, when a client does not want to, or is not in a position to pay back the debt, there would be a pattern in his/her behavior, and identifying those patterns can help your business lower bad debt and potentially save you from huge headaches.
Below are the five most important warning signs that will help businesses identify and avoid the default:
Acid-test Ratio – The banking and finance industry is well aware of the Acid–test ratio – also called the quick ratio. It is not often used in the case of individuals as it is in the case of companies who borrow on a regular basis. Acid-test ratio tells the ability of a particular entity to use its quick cash and assets to pay off the debt. Here is a video that explains exactly how it works:
In case, the Acid-test ratio is less than one, it means they do not have the enough cash to pay off current debt. Of course this method requires that the company that you are dealing with gives you the information you need to perform the test, but it is a calculation that can be done quickly (and if they refuse to hand over the info you need that is another red flag that they might be in a bit of trouble).
Disputes on Invoices or Changing Terms – At the time of assigning debt, your business and the customer agree to specific terms. However, if a customer who was fine with the terms and agreements before, now starts questioning the points in the agreement then this is an early warning sign that something might go wrong.
Unanswered Phone Calls – Everyone can get busy and ask you to call later. However, this gets beyond reasonable to the point of alarming when phone calls for the debt collection go unanswered on a regular basis. When the customer is not answering calls, a letter should be sent to the client immediately. Keep a digital copy for your records as well. After this if the client does not turn up or continues to avoid communication, you have perfectly reasonable grounds to send someone in person.
Changing Business Patterns – If you notice changing patterns in your client’s business behaviour that doesn’t seem reasonably effected by your conduct, don’t hesitate in sending someone in person to try and understand the changes that the client made in their working methods, which may be reflected in their cash flow. It is not always necessary that such customers will default, as over time nature of business does change with expansion and acquisitions, and the same is reflected in the books of the company.
Reducing Product Prices – Seasonal offers and discounts are usual things in business. However, if a client has started offering overly frequent discounts, or ‘everything must go’ type sales, then it’s definitely a cause for concern. There are possibilities that the business is running into losses and therefore reducing prices could just be a way to clear the inventory and realise costs. Another possibility is that the business might be looking to increase its customer base and is selling at a reduced price. Either way, the cash flow is affected, and business owners should make sure to enquire about any probable concerns, or ask a debt collector to assist in research and contact.
It is true that bad debt risk cannot be totally avoided, but following the above signs will surely help to reduce risk. Also, lenders must remember that debt collection can be more of an art than science at times as there are no fixed rules for identifying the default. So, experience in identifying patterns, asking the right questions at the right time, and doing the right amount of research all while abiding by lawful guidelines and respecting that some clients will have certain difficult periods will go a long way in saving you from bad debts and broken relations.