8 Critical Success Factors For

Credit and Collections

 How to reduce payment risk in your
receivables portfolio by upgrading
internal policies and procedures.

Credit and collection departments are often judged by their ability

to minimize risk. Taken to the extreme, the complete elimination of
all forms of payment risk would have the adverse effect of reducing
sales and profits. By refusing open account sales to marginal
customers who might pay slowly or default next year, you risk losing
these customers to your competitors. Though the profit margins on
these lost accounts would undoubtedly be lower than those of the
top-notch customers you kept, your total profits would decrease
while your competitors' profits increased. The loss of market share
might even magnify this disparity.
 Profit maximization should be the goal of credit
and collections. This requires aligning your credit
department's objectives with those of other
departments in your company. Instead of being
the Stop Sales department, the credit
department can instead be a full partner in your
company's success. This also means that a certain
level of credit department failure, slow-paying or
bad-debt accounts, will become a part of your
company's business plan.
 Tolerance for risk is then determined by quantitative
parameters that estimate maximum profitability.
However, payment risk is not solely a component of
your customers' creditworthiness. Internal policies and
procedures are often responsible for creating situations
that give customers excuses for paying in a slow
manner or not at all. This is true of credit department
operations as well as other activities throughout your
company. By constantly working to improve the quality
of your operations and products, payment risk
becomes more narrowly defined by your customers'
creditworthiness, an easier parameter to measure
 In fact, most companies can better reduce
payment risk in their receivables portfolio by
upgrading internal policies and procedures
than by focusing on customer
creditworthiness. The good news is,
minimizing risk in this way has no adverse
effect on profits and often results in much
more cost-effective procedures that boost the
bottom line.
 Using Critical Success Factors
By identifying the key factors that determine the level
of success of your credit and collection function, you
can create a practical evaluative tool geared toward
realizing improvements. Once you know your
weaknesses, corrective actions are much more
apparent.
Critical success factors follow the simple rule that some
tasks must be accomplished above all else for an
endeavor to be successful. They are defined as any
element of a business plan essential to the success of
that plan. When defined for credit and collections,
critical success factors provide a road map for
systematic improvement.
 Factor 1: The Elimination of Payment
Barriers.
Some companies are their own worst enemy in terms of the impact
that order fulfillment, production and distribution processes have
on collections. Product quality, pricing schemes, shipping efficiency,
billing procedures, order acquisition processes and so forth can all
seriously retard the collection process and not just when
mistakes are made.

Jeff Rosengard, vice president of The Hackett Group, a Hudson,

Ohio-based management consulting firm, notes that with many
companies reengineering their payables and purchasing processes,
vendors need to correspondingly simplify their upstream
processes. According to Rosengard, leading consumer product
companies have gone through that cycle twice and it looks like the
industry as a whole is starting to react to it.
 Rosengard says the process breaks down when we've given the
customer an excuse not to pay us or not to pay us the right amount
because we didn't perform. Customers have agreed on the front
end that if they are going to buy your product, they're going to pay
for it. The only way you can mess it up is by giving them a reason
not to pay. The goal is really to reduce the activity going through
credit and collections.

John Metzger, CEO of Creditek Inc., Parsippany, N.J., a deduction

management and accounts receivable outsourcing firm, expresses
similar views about doing it right the first time. Make it easy for
your customers to do business with you. That means that your
invoices have to be correct, he says. Many companies that we
look at have an extremely high error rate as high as 30 percent to
40 percent.
 Factor 2: Convenient Access to
Reliable Information.
The lack of integration among multiple data sources creates an
extremely inefficient environment for many credit departments.
Because collection notes, credit reports, accounts receivable details
and order documentation may be all kept in different physical
locations, a lot of time is spent collecting information used to
perform routine credit and collection tasks. Consolidating this
information so it can be accessed through a single electronic
interface provides a platform for more efficient systems.

Many companies, observes Metzger, are operating with archaic

systems. Typically he finds collectors writing on last months aging.
When the next aging comes in, they copy their comments from last
month to this month. To overcome unproductive activities such as
this, Metzger says, companies have to develop effective
automated credit and resolution tools.
 Factor 3: Valid Risk Assessment
Parameters.
Information drives the front end of the credit and
collections process. It's easy to collect lots of
information, but the more data you accumulate,
the harder the analysis becomes. Collecting
information also consumes time and money, so
don't capture data that is irrelevant to your
decision-making process. Gathering a wealth of
information on top customers can be justified
from both a cost and exposure basis, but the
same is not true of smaller accounts.
 Rosengard raises the question, When do I do a credit
analysis? Should I do it for every new customer? He goes
on to suggest that the answer to that question may be no.
You may set a limit, an amount where you are willing to
assume the risk provided some basic criteria are met, he
says. When I look at the cost of [performing a credit
analysis], it may exceed the benefit of the initial order.
A portfolio approach to receivables management,
segmenting customers by size, by industry, and by potential
to pay slowly or not at all, helps quantify risk. Then, by not
only assigning credit limits, but also assigning risk
classifications, you can better set collection priorities,
determine exactly the type of credit information to collect
and analyze the amount of risk in your portfolio.
 Factor 4: Efficient Credit Approval
Procedures.
If you have done a good job assessing risk, credit approval decisions
become much easier. By maintaining valid risk parameters within
your computerized receivables database, automating the credit
approval process is a relatively simple programming exercise that
will greatly improve order approval throughput. Marginal situations
and rejected orders are flagged for manual credit department
review, but these will be a small percentage of orders, consuming
only a limited amount of your credit department's time.

Getting orders approved quickly also benefits the manufacturing

and distribution functions. Companies that can take an order and
turn it into a ready-to-ship product in less than a day cannot be
slowed by inefficient credit approval procedures.
 Factor 5: Systematic Collection
Procedures.
Effective collections can be summed up by the simple phrase, call early,
call often. Call early because receivables lose value with time. Call often
because systematic follow-up procedures are essential to speeding up the
collection of delinquent receivables.
Most companies wait until an invoice is 30 or 45 days past due before
doing anything with it, says Creditek's Metzger. We believe that the
larger invoices should actually be contacted before they are due to make
sure everything is OK. He suggests smaller invoices be contacted within
15 days or so of being past due. You have to set the customer's
expectations of what they have to do to maintain the vendor relationship.
As a matter of fact, there are a number of accounting firms out there, and
some consulting firms, that analyze payables to identify how long it takes
the vendor to call for payment. They set that as the benchmark for paying
the bill. So, if your follow-up starts 60 days after the invoice is due, you can
bet your bottom dollar that the accounts payable cycle is going to tend
toward 60 days before they send you a check, concludes Metzger.
 Factor 6: Timely and Accurate Cash
Posting.
It isn't enough to correctly record payments, it must be done
quickly. This information drives the entire collection process. Slow
postings result in duplicated efforts and wasted time. In fact, it is
not uncommon for credit staffers, on a daily basis, to note
payments on their aging reports rather than to wait for the details
to be entered in the computer just a day or two later. Remittance
processing software can make cash application almost a real-time
activity, thanks to EDI and the electronic transmittal of bank advice.
Using these technologies to automate remittance processing
provides tremendous productivity benefits.
Companies are looking for different ways to have customers pay,
says Rosengard. For small dollar stuff, charge cards or procurement
cards are effective. Taking a procurement card improves cash flow,
and you've just outsourced your whole credit and collections
function. He also notes that direct debiting of customer accounts is
another popular alternative.
 Factor 7: Clearly Stated Staff
Responsibilities.
Because there is so much going on in the typical credit and collections
department, it isn't hard to find staffers duplicating each others efforts or
working at cross purposes on the same accounts. Not only is it important
that everybody in the department be focused on their own
responsibilities, but everyone also needs to know who is responsible for
what actions throughout the whole department.

Goals and objectives are important tools for carrying out this mission.
Metzger makes the point that not only should departmentwide goals for
cash flow, DSO and your receivables' age be clearly articulated, but targets
for individual levels of performance, such as collection calls made and
deductions resolved, should be set. He also points out that it is necessary
to track the resolution of deductions and invoice disputes through the
various departments and give each department goals in respect to
turnaround time. Otherwise, it is not uncommon for deductions to go
unresolved for 120 days or longer.
 Support From Top Management
Despite the best intentions of your credit staff, they cannot reach
their full potential without the support of top management. Lacking
this support, credit and collection departments are limited by what
they can do when the issues at hand take them onto another
department's turf. Likewise, the failure of executives to recognize
the obstacles credit and collection departments face or to
understand the critical success factors in play will result in
inefficiencies and loss of productivity.
Metzger emphasizes that top management must buy into the idea
that effective credit and collections management is critical to a
corporation's success because nothing really happens unless they
are committed to improving the cash flow. We see relatively few
companies of any size investing a great deal of money in the credit
and collection function. I think with cash flow being paramount to
the financial performance of most of these organizations, it is
something they should definitely consider.