Offering credit to customers can speed up their invoice payments, increase the amount of their spending, and even help businesses gain a competitive advantage in their market or industry.
However, weighing up the probability of increased sales with the risk of reduced cash flow, as well as the nature of a business and the size of the transactions are important factors when managing risk in a business.
Owners who are considering offering a credit option to some or all of their customers should consider the following risks:
Reduced cash flow
You may end up waiting for customer payments which then reduces your ability to purchase replacement products from suppliers.
Reduced profit margin
Funding credit sales will reduce a business’s profit margin. The cost of this will show on a business’s profit and loss statement, so owners should keep this in mind when they put a price on their products and services.
Unpaid debts can pose quite a risk to a business. This is particularly the case when owners are exposed to large single transactions.
Performing a credit check is one way owners can manage the risk of bad debt. This involves customers completing and signing a credit application form or agreement before being offered credit. Owners need to collect:
- the customer’s signature and a written confirmation that they have read, understood and will abide by all terms and conditions
- identification and contact details
- approval to conduct a credit check where necessary