When To Place Accounts In Collection

About Placing an Account in Collection

Companies provide credit terms as a means of competitive marketing. Without terms, a customer will likely go elsewhere to place their business, as exploiting a supplier’s terms is often the most deliberate method to improve a businesses’ cash flow. For most industries, credit terms are simply a given.

In providing terms comes risk that is seldom fully considered at the outset. Sure, most know that there will inevitably be delinquencies and an occasional bad-debt that’ll have to be written off, but seldom do managers think in terms of net administration costs invested to collect the delinquent debt and the cost of lost opportunity.

For example, say you have a plumbing supply and contracting business. Your COGS run 20% and G&A 60%, leaving a net profit of 20%. Now consider that 15% of your receivables are outstanding >30 days on average, which nets you 20% on your P&L but in actuality leaves you with only 5% cash flow for the month. This over-simplistic model works with consistent and improving sales, but it’s a recipe for disaster with stagnant or declining sales and importantly significant with seasonal businesses.

The Costs

Administrative costs are fairly straightforward to calculate; payroll (and tax) expense in phone calls, emails and journal entries, stationary and postage. If you factor receivables or have a line of credit for inventory, you’re carrying-costs in interest need to be considered. Every passing billing period increases the administration cost in collecting delinquent debt.

Opportunity costs come in many flavors and can be a little more difficult to calculate. For example, a wholesaler just offered you a generous incentive if you can make the next tier purchase for the xyz plumbing widget, but you can’t make that tier because you haven’t the funds to purchase; this is opportunity cost. You just discovered a new piece of equipment that could lessen your input labor costs, but you would need to borrow the funds for purchase because you lack the capital. Taking on debt is opportunity cost.

Your biz-dev team is 20% over last year, production staff is at capacity and administration team generates invoices 3 days after installation, on average. Your terms are Net 30, but you have a few clients that pay net 45-60 days because ‘this is what they’ve always done’ or ‘this is what it took to get their business’. Your cost of opportunity here is the time period exceeding your “established” credit terms, whereas you miss the use of that cash flow during this period AND requires resources from your staff to attend to the aged receivables (invoicing, journal entries, etc) instead of normal production tasks. This is opportunity cost.

More on Opportunity Costs

Opportunity costs are a bit more opaque in a busy operation and often attributable to a cost of doing business, such as writing off interest paid, but often these costs can be minimized or avoided with tighter controls on aged receivables and certainly by avoiding bad debt altogether.

So when to engage a third-party collection service? Research and learn your industry benchmarks for delinquent debt. The obvious venue for this information is the internet, but a good CPA will also have access to this data and may be more reliable than what you’d find elsewhere. Learn what your aged receivable benchmark is and meet or beat it with intention. By intention we mean to develop a process of consistency. For example, establish 10-day phone and email touchpoints on delinquent accounts. Perhaps send another statement at 14 days post-term instead of the typical 30 days for many businesses. Maybe a courtesy, handwritten note on the second statement. Add a service charge on outstanding amounts if you don’t already. The point here is to have an established plan for delinquent receivables and remain consistent at all times.

A plumber installs a wax ring before setting a toilet and a CPA affixes their signature to every tax return; every business has processes in place and the handling of aged receivables should be no different.

How to Collect Payments?

Third-party collection services are the most effective at recovering receivables as they become aged beyond your internal process. A few services exist that provide the weight and fortitude of a third-party professional without the high commissions normally associated with agencies and collection attorneys. One such service is Centixx, which sends your customer a legal and professionally-curated letter of demand on their letterhead and permits your customer to pay you directly. Centixx is a fixed-fee service, and for a nominal cost provides one final opportunity for collecting and keeping 100% of your money before engaging a commissioned agency or attorney for escalation.

Time is of the essence in debt recovery. The older a debt becomes the more difficult and expensive it is to recover. The dynamics of this are well beyond the scope of this writing, but paramount to all is that a delinquent account can be a precursor to your customer’s financial challenges and less about their desire to maximize cash flow.

In summary, establish your internal processes for receivables and remain consistent. Remember time is of the essence. Include a third-party professional in your processes to give the delinquency more credence; a third party fixed-fee service is a great intermediary option to retain most, if not all of your money. Then, and only then, if this fails to yield results you can then escalate to a professional recovery agency or attorney as the final part in your recovery process.