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Friday, June 11, 2010

Are Your Customers Shopping With Your Credit?

In early June, the new season of The Real Housewives of New Jersey kicked off with star Teresa Giudice going public about her bankruptcy filing. The filing reveals that while she and her husband brought in less than $200,000 a year, they managed to rack up nearly $11 million in debt.

So, how many customers in your commercial customer base have maxed out their credit and are in line to file their bankruptcy, just like this Housewife? We haven’t seen the full impact of the recession because these high-risk companies have been able to survive by maxing out their trade credit lines. They’re now running out of credit and they’re at a high risk of defaulting on their debts if their cash flow deteriorates even slightly.

One of the remarkable features about the Giudice case is her behavior just prior to the bankruptcy filing: she’s seen on television dropping thousands of dollars on shopping sprees and a lavish party for her daughter. You certainly wouldn’t want her as a customer, but how many times do we credit managers hear from our sales people telling us how strong their customers are because they “own” expensive houses, boats, etc. Do they REALLY have cash or is it YOUR money they’re throwing around?

Companies oftentimes “grandfather in” credit lines because they’ve been doing business so long with certain customers. They justify the credit increases because the customer has been buying from them without any problems. It’s common, however, for companies to become complacent when they think risks are minimal and don’t perform current due diligence on long-term customers. Also, they may think risk isn’t a problem when they have hundreds or thousands of smaller customers – but the lack of due diligence smacks them hard when they receive a bankruptcy notice telling them one entity owned 25 of their smaller customers, and they’ve all defaulted.

Customers, like this Housewife, know the game: if they keep making small payments at the right intervals, you’ll probably continue to extend them more credit. Depending on your collections system (or lack thereof), they may be able to string you along for months by promising to pay while making small payments to keep you shipping.

Strength is slowly returning to many sectors of the economy and some businesses are doing very well, but there are many companies still living customer check to customer check. The time to find this out is not when they stop paying you. You need to look into your customers’ financial strength, not rely on your sense or your sales peoples’ sense that they’re “good customers.”

If you are able to identify some of your customers as higher risk, you can monitor their cash flow situation, even without financial statements, through consistent bank reference checking. Also, stay on top of exposures by calling five days before their invoice is due to remind them that you’re expecting payment. You should be aggressive about placing these higher risk accounts on credit hold when they’re over their limits or past due. Pay close attention to public filing records to make sure they’re paying vendors and their tax obligations.

Economists have suggested we’re going into a double dip recession and for some companies that’s going to be a killer. The creditors who are willing to make permanent changes in the way they manage cash, credit risk and collection activities are among those that are going to come out of this environment stronger. When you’re tempted to let your past due customers slide, or want to extend more credit without verifying they have the resources to cover it, just bear in mind that Bloomingdales, Nordstrom and Neiman Marcus each gave a $20,000 line of credit to Teresa Giudice despite her millions in mortgage debt and relatively small income. Don’t let your customers go on a shopping spree with your money!

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