Are credit insurers battening down the hatches?

Today I met with a printing business who had a cash flow problem. Printers are a little prone to cash flow glitches because of their large capital outlays (representing fixed costs) and the fact that people tend to pay printers slowly (an average of 60 days is often considered pretty good).

The thing is, I have had a number of enquiries from printers lately, so I asked this printer the question: is there something going on in the printing business to cause cash flow hiccups among printers?

The answer was quite fascinating. It seems that the paper suppliers are tightening up on their credit terms. Wait on, that's not the fascinating part. What I found fascinating was that the reason the paper suppliers are apparently giving for tightening up is that their credit insurers are apparently imposing tighter restrictions on the suppliers!

Credit insurance works like this: as a supplier, you take out insurance against your customers going broke. It is an excellent product, I think, for two reasons.

Firstly, the cost of insurance is a fixed, predetermined cost, that really is almost negligible. Compare this with the variable, unknown, and often devastating cost of bad debts.

Secondly, using a credit insurer imposes a discipline on suppliers to make sure they tick all the right boxes before extending credit to their customers. This is important, because often bad debts are really a result of slack internal processes on the part of the supplier.

My theory is that the credit insurers are watching the global credit markets, and the threat of a global economic slowdown very carefully, and that they see bad weather ahead. As a consequence, they are in effect, "battening down the hatches".

The Australian economy is showing many of the hallmarks of strength: growth, high levels of business investment, and low unemployment. On the other hand, credit markets are in crises. Talk in the paper includes previously foreign terminology such as as "credit rationing". The larger corporates (often suppliers to small business) must surely then be compelled to tap their own debtors (often small business) as sources of free cash flow, in an environment where bank credit is becoming scarcer and more expensive. And the credit insurers are also alive to the risks at play here.

My anecdote is only one tale, and one swallow does not make a summer, so I would be interested to hear more from others "on the ground".

Don't let a busted client send you bust!

How many times have you seen a small business experience distress, or even fail, as a result of the collapse of one of its commercial customers? I met one the other day that inspired me to offer a few tips and to post a cautionary tale.

So, can a business that supplies it's goods or services to other businesses on credit terms protect itself from this kind of disaster? How?

Aside from the obvious (and sometimes impractical) advice of not putting all your eggs in one basket, I have three suggestions:

1. Have clearly stated credit terms that are agreed to in writing up front.
2. Have a process for establishing the credit worthiness of your client. You should not extend credit to any business if you don't know how long they have been in business, their payment history with other suppliers, and something of the substance of the owners of the business.
3. Obtain personal guarantees wherever practical.

You can do all of the above with a simple credit application form that incorporates payment terms and a personal guarantee. I am sure you could find examples on the internet (google "credit application form"). Otherwise, nip down to Officeworks or Bunnings, and you will see the style of document I am talking about.

Now the cautionary tale. I met a chap last week who has a shop-fitting business. He completed a fit-out for a store in a major shopping centre and that was part of a small chain. He completed the job and handed over his invoice for $50,000. The same day, the owner of the business announced that she had placed the business into the hands of external administrators.

The external administrators sold the business to a "friendly" party (who by the way then kindly re-employed the owner of the busted business in a senior role). The shop fitter however was left high and dry. The new owners of the retail chain were not liable for the debt (the busted company was liable for the debt). The shopping centre managers would not give the shop fitter access to take back his shop fittings (which frankly would have been of little use anyway).

But the real insult came when the shop fitter learned that the owner of the busted business had substantial property holdings! It was the busted business, not the busted business's owner personally who owed the debt. So the shop fitter now had a $50,000 problem.

A simple credit process may have spared him of the whole sorry affair, but a personal guarantee would have given his lawyers an avenue for recovery of the $50,000 from the proprietor.

I am going to call on some friends with expertise in the area of credit and recoveries to post some comments here, so do check back if you want some more valuable tips!