Get Ready for a Wave of Commercial Bankruptcies
How to Protect Your Accounts Receivable from Elevated Credit Risks
Historically, business failures increase after a recession. After, the Great Recession of 2008, commercial bankruptcies peaked in 2009 and did not drop below pre-recession levels until 2012. Following the sharp but short Covid Recession, roughly 5 million small businesses closed shop in the first six months after the economic shutdown, but commercial bankruptcies did not begin increasing until May of 2023, ostensibly due to the government’s economic stimulus programs. That money has now been spent.
In the meantime, high borrowing costs and reduced consumer spending are causing problems as illustrated by the layoffs in the tech industry. Likewise, the construction and business services industries, accounting for nearly 20 percent of insolvencies last year, are projected to remain the hardest hit in 2024. The hospitality and retailer sectors are also expected to continue to face challenges. Commercial real estate (CRE) is another struggling sector. Fitch Ratings forecasts U.S. commercial mortgage bank security (CMBS) office loan delinquencies to jump to 8.1 percent in 2024 — that’s roughly one in twelve.
Clearly, the level of Business Credit Risk is going to remain elevated as we move through 2024, bringing with it the potential for corresponding increases in bad debt and delinquency. The good news is that there are a number of actions you can take to reduce your loss exposure and shore up your accounts receivable (AR). Some of these steps can be initiated immediately, while others will require more time (and some investment) to implement.
Please feel free to share this newsletter with your small business customers . . . it just might help them pay you sooner!
Read on to learn six actions you can begin doing today to reduce the exposure of your AR portfolio to customers that are at risk of delinquency and default, and an additional three longer term initiatives you can implement that provide the added benefit of boosting future AR performance.
Six Risk-Mitigation Activities You Can Initiate Right Away
When faced with a deteriorating economy, or a growing risk environment, you should seek to collectively fortify the financial stability and minimize the credit risk exposure of your AR portfolio. Here then are six actions you can begin taking today that will help you meet those objectives:
Re-evaluate the Credit Worthiness of All Your Customers: This is something that you should be doing periodically as well as when there is increasing risk in the marketplace. To support your decisions get updated credit reports, more recent financial statements (if available) and update the customers supplier payment references. Because this can be no small task, you will want to prioritize how you go about this. Start with your largest customers along with those you know are at risk. The formula is to work from high dollar and/or high risk to low dollar and/or low risk. For more on credit evaluations, check out this post.
Update Your Customer Credit Limits and Risk Classifications: Not only should you be basing these factors on the status of the customer, but also on the prevailing market economy. That means you need to decide if your overall credit tolerance needs to be either more or less restrictive across all your customers. It is worth noting that we highly recommend the use of Risk Classifications in addition to Credit Limits. When you need to set a credit limit above your comfort zone, assigning a higher risk class to the account acts as a reminder that the account bears more monitoring. It will also help your prioritize your credit reviews as recommended in item #1. Here’s more on setting credit limits.
Accelerate Your Collection Efforts with Your At-Risk Accounts: Customers that are past due and posing an elevated level of credit risk should top your list followed by all other past dues, largest to smallest. You also should be prepared to initiate collection activities with any large balance accounts the first day they go past due. Learn more from these posts on Prioritizing Collections and Effectively Managing the Collection Process.
Place Unresponsive Debtors with a Collection Agency: As you put more effort into collection activities, you are likely to run into over 90 day past due customers that continue to hold-off paying. Rather than waste your time trying to get them to respond with a payment, let your collection agency or attorney do that heavy lifting. The fee a collection agent will charge is well worth it because they are more likely to get a response, and sooner for that matter, besides saving you valuable time. Here’s how to call in the collection cavalry.
Ensure the Order Hold Process Is Working Properly: You don’t want orders going out to customers that are past due or over their credit limit without a review. You may also want to tighten your credit hold parameters at this time. Go to this link to read about order approval best practices.
Obtain Quotes on Credit Insurance. This is a great way to indemnify your company from most bad debt losses. Premiums can be economical if the insurance program is structured properly. This is why we highly recommend going through a broker. Here’s a primer on credit insurance.
Readers of Your Virtual Credit Manager can access sharply discounted business credit reports from D&B, Experian, or Equifax through our partner accredit.
Three Initiatives for Increasing Long-Term AR Performance
In today's dynamic business environment, adapting to shifting payment trends and workforce dynamics is imperative for sustained success. To facilitate cashflow and keep bad debt losses to a minimum requires operational agility and responsiveness as well as positioning your business for competitiveness and efficiency in an increasingly digital and decentralized landscape. Here then are three initiatives to keep you on track.
Add Alternative Payment Capture Capabilities. Paper checks are steadily loosing popularity as businesses migrate to electronic payment solutions such as credit cards, ACH, Zelle, Venmo, PayPal, Stripe, and Bill.com. Offering e-payment options to your customers is something you should be doing in any event. Keep in mind, the objective is to make it easy for your customers to pay you. Check out this posting for more information on migrating to the acceptance of digital payments.
Automate as much of the Order-to-Cash (O2C) Process as possible. By increasing efficiency and reducing cycle times (throughput) you will be better prepared to adjust to a changing marketplace, as well as be able to cope with higher workloads. Several vendors have begun offering automation solutions for small businesses that focus on a specific task as opposed to digitalizing the entire O2C process. Most of these are delivered on a Software-as a-Service (SaaS) basis for an economical monthly fee. There are products for processing new customer credit applications, credit analysis, collections, and remittance processing to name a few.
Solidify Your Remote Work Capabilities. When Covid first hit, everybody scrambled to set up remote work capabilities. Even though staffs have moved back into the office, albeit slowly and not completely, prudence dictates that companies be able to handle credit and collection activities outside the office. You never know when a credit emergency will arise, and where the best person to handle it will be. Do you have secure remote access to all your accounts receivable functionality? Can you send invoices electronically? Can you process new customer credit applications online? Will your telecom infrastructure support a remote workforce? The bottom line is that all these things can also make you and your team more productive.
The experts at Your Virtual Credit Manager are ready to help you improve cash flow and reduce AR risks during these challenging times. What do you need help with? We are currently offering 33 percent off our standard small business consulting rates.
In Summary . . .
The economic landscape remains precarious as we traverse through 2024, with echoes of past recessions resounding in our current challenges. The aftermath of the Covid Recession coupled with persisting economic strains has placed many businesses in vulnerable positions. As indicated by recent trends, sectors such as technology, construction, business services, hospitality, and retail are grappling with the harsh realities of reduced consumer spending and high borrowing costs. The commercial real estate sector faces looming delinquency rates, further exacerbating the economic turbulence.
Amidst this backdrop, it becomes imperative for businesses to proactively manage credit risk exposure and fortify accounts receivable portfolios. Implementing immediate actions such as re-evaluating customer credit worthiness, updating credit limits, and accelerating collection efforts can provide essential safeguards in the face of mounting uncertainties.
Furthermore, adopting longer-term initiatives such as integrating alternative payment capture capabilities, automating key processes in the order-to-cash cycle, and solidifying remote work capabilities can enhance resilience and future performance. By embracing these strategies, businesses can navigate the turbulent economic waters with greater agility and mitigate the adverse impacts of credit risk, thereby laying a foundation for sustainable growth and stability in the years to come.