“We’ve got some cash flow issues, and I’m really getting concerned… especially now with the credit crunch”, a small business owner related.
“What’s the average age of your receivables?” I asked.
“Forty-five, maybe sixty days.” Two clarifying questions later, we determined it was actually closer to ninety days.
“And what are your terms?” I inquired.
Immediately he responded “Net 30.”
Here is a firm that is really, really good at what they do, and too often they’re working for free. They’re also not alone; many businesses are suffering from billing and payment terms that were never in the company’s best interests, or that were never adhered to by their customers. Fortunately the cause is simple to identify and, with the right touch, easy to correct.
Follow these seven steps:
1) For your own understanding, write down the reasons you originally set the terms you did. It is very helpful to pinpoint what you were thinking at the time. Were you copying the competition? Using some sort of industry standard? Thinking it was a competitive advantage to provide loose and generous terms to win the account? Now, I may be the only one to have ever made that last mistake, but just in case you’re thinking about it… It is your competition’s competitive advantage if your terms put you on thin ice financially.
2) Calculate the optimum terms that would result in the level of cash flow necessary to do incredible work, and provide excellent service that is noticably and appreciably better than existing alternatives. This is a lesson I learned the hard way twenty-two years ago. At the time, the industry standard was NET 30 with average aged receivables at forty-five days. Our terms mirrored the NET 30, and due to some lax oversight on my part, the average payment was about two weeks late. It was right in line with everyone else, and it almost cost us our business.
Some analysis revealed what was to be the first of many great awakenings. It was determined that in order to lead the market and deliver consistent and extraordinary results, we would need to do two things: First, we needed to raise our fees by 30%; and second, we needed to receive virtually all of our receivables in three days, not forty-five. Needless to say, this revelation was the start of some awkward sleeping habits that trailed me for several weeks, but at least we could begin working toward a solution.
3) Define a powerful incentive that you can attach to the terms you calculated in the previous step; an offer that is important to your customer and literally makes too much sense to refuse. Create a message that communicates the significant benefits of your terms, in language that they can understand and sell internally on their end if they need to. You may have several payment options, but only one comes with the incentive that makes it the obvious best deal.
4) Train your people. Your team needs to know why the terms are what they are, and fully understand the rewards that both sides receive at each step of the relationship.
5) Instill accountability to create good habits. And as a leader, be consistent and set a good example; whatever terms are negotiated and agreed upon, is what needs to happen. If you let things slide occasionally here and there, it creates confusion for your staff and the customer. On the other hand, stability leads to confidence and respect in the minds of those we serve.
6) Start all new customers on the right foot by clarifying all money issues up front. Call it what you want: On-boarding… new customer orientation… expectations review… whatever. Do not leave this to chance; a meeting to reach agreement and define the smallest financial details is an example of marketing, fiscal, and leadership excellence. Good leaders foresee challenges and fix them before they become real issues; they understand that leaving any ambiguity in this area is asking for long-term trouble.
7) Review current accounts, and resolve to clean up any and all messes within six months. More often than not this will require several steps; the relationship didn’t get loose over night, and it won’t be fixed in a day. Depending on the circumstances and the personalities involved, each customer may require a specific game plan. You can see an example of what we may do by clicking here.
Doing the work necessary to repair relationships and correct payment issues will prove out the wisdom of doing steps 4), 5), and 6). Thankfully, six months comes quickly in business, and negative cash flow issues are not part of your future!
1) Business terms should guarantee sufficient cash flow to impact your market, and achieve your organizational visions and purposes.
2) Combining large Accounts Receivable balances with a tight economy can keep you up at night.
3) Old habits are hard to break.