What Triggers Your Collection Efforts?
Twelve Circumstances that Should Trigger a Collection Response
If all your customers paid promptly — by the time the invoice was due — you would not need to do any collection work. Collections is a reactive process. The amount of collection activity with which you are tasked is directly proportional to your customers’ payment habits.
For most trade creditors (B2B organizations selling on open terms), the collection process is triggered shortly after a customer’s account becomes past-due. That is when an initial dunning notice (typically an email these days) is sent or a collection call made. What follows is determined by how the customer reacts. They might do nothing you can discern, make a payment, or make a promise to pay. After that, things can get more complicated.
To address all the contingencies associated with collections and to ensure the collection process is effective, you should follow a predetermined collection strategy. Whether you have automated the collection process or not, mapping out collection strategies for the different types of customers in your accounts receivable (AR) portfolio is an accepted best practice.
Collection strategies ensure appropriate collection activities are executed at each stage of the collection process, as well as ensuring appropriate coverage for all the past-due accounts in your AR portfolio. In addition, collection strategies help you prioritize collection activities and provide a formula for escalating your collection efforts when payment is not forthcoming. For more on systematic collections, check out this article from YVCM’s “Basics Department.”
Triggers, events or situations that require an immediate response, help take care of the aforementioned contingencies that crop up during the collection process. Recognizing trigger events allows you to change course during your collection process to address emerging situations.
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Eleven More Events That Should Trigger a Collection Response
1. Broken Promises: Anytime a customer fails to pay as promised, you need to make it a top priority to re-contact them. When a debtor repeatedly fails to follow through on promises or commitments to make payments, despite assurances to the contrary, the pattern is indicative of untrustworthiness or financial instability. You will need to change the dynamic.
Collection activity: Document the instances of broken promises or payment agreements before speaking to the customer's management. Express concernx regarding the lack of follow-through on payment promises and reiterate the importance of fulfilling obligations. Clearly communicate the consequences of continued non-payment and escalate collection efforts if necessary. Also, explore stricter payment terms or enforcement measures to compel compliance with payment obligations.
2. Multiple Missed Payments: A customer who consistently fails to adhere to agreed-upon payment terms or conditions outlined in the contract or agreement, demonstrates a disregard for contractual obligations. Consistently missing payments is also indicative of financial instability or an unwillingness to fulfill obligations. This behavior needs to be corrected before it becomes a chronic situation.
Collection Activity: Schedule a meeting or phone call with your customer to discuss their payment history and repayment options. Clearly communicate the consequences of non-compliance with payment terms and seek prompt resolution of outstanding debts. Enforce your contractual rights by implementing remedies such as late fees and accelerating their payment obligations by lowering their credit limit and putting them on shorter terms. Consider offering incentives for prompt settlement or negotiating terms to accommodate the debtor's financial situation to return the account to good standing.
3. Failure to Respond to Payment Reminders: A lack of response or engagement from a debtor, despite multiple attempts to contact them regarding past due balances, is very concerning. If you cannot get their attention, you may lose the customer.
Collection Activity: If you haven't already done so, increase the frequency and intensity of your communication efforts, including phone calls, emails, and formal letters. Clearly communicate the urgency of the situation and potential consequences of continued non-payment. Also, advise sales of the situation to see if they can get the customer to engage. When an unresponsive customer reaches 90 to 120 days past due, you should consider sending a final demand letter and then turning the account over to a third-party collection agency.
4. Abrupt Changes in Payment Behavior: Sudden changes in payment behavior, such as a significant decrease in the frequency or amount of payments, without explanation or justification is often a sign of mounting cash flow difficulties.
Collection Activity: Investigate the reasons behind the abrupt changes in payment behavior and assess the debtor's financial situation. To do this you may want to order an updated credit report as well as recontact any suppliers they provided as a credit reference on their credit application. Seek clarification from the debtor regarding their cash flow situation and payment intentions and adjust your collection strategies accordingly.
5. Derogatory Information: You should be monitoring the creditworthiness of the customers in your AR portfolio. This is done by getting updated credit reports, updating credit references, sharing information with a credit industry group, and monitoring various information sources both internal and external. When you become aware of suits, liens, judgments, slowing payments or deteriorating credit scores it is time to take action.
Collection Activity: If the situation appears minor, simply tighten up your collection policy and monitor more closely. When the situation warrants, contact your customer about the negative event to get their side of the story and discuss the potential consequences and safeguards (such as filing a UCC Security Agreement) to ensure you get paid. If it looks like the situation is rapidly deteriorating and other creditors are initiating legal proceedings against the debtor, you should involve your attorney.
6. Repeatedly Disputing Valid Invoices: A debtor who repeatedly disputes valid invoices without providing legitimate justification or supporting documentation is usually trying to delay payment. In contrast, legitimate disputes and payment deductions are typically indicative of a discrepancy between your invoice and the customer’s purchase order, which can be easily reconciled.
Collection Activity: Request detailed explanations for invoice disputes and require supporting documentation to substantiate the claims. Address any legitimate concerns raised by the debtor while firmly asserting the validity of the invoices and the debtor's obligation to pay. If unsubstantiated disputes become a pattern of behavior, you will need to get sales involved along with one of your customer's executives who has the authority to act. Pursuing alternative dispute resolution methods, such as mediation or arbitration, can also facilitate communication and negotiation in tough situations.
7. Change in Ownership or Management: Significant changes in leadership or ownership of a customer may impact their payment priorities and ability to honor existing agreements. Going forward, you should treat them as a new customer, but in the meantime, you still need to collect any existing debt.
Collection Activity: Reach out to new management or ownership to confirm their awareness of outstanding debts and re-establish payment arrangements. Have the customer complete an updated credit application and request updated financial information so you can assess their current financial status.
8. Economic Downturn or Industry-Specific Challenges: Market turbulence, such as an economic recession, rising interest rates, increasing numbers of business failures, or industry-specific challenges, may impact the ability of many of your customers to generate revenue and meet their financial obligations.
Collection Activity: These large-scale situations require a comprehensive AR portfolio analysis to identify those customers most at risk. With that knowledge, you can adjust your collection strategies accordingly. Offer flexible payment arrangements or alternative solutions to accommodate those customers most severely impacted.
9. Financial Distress Indicators: Many of the circumstances listed above indicate financial distress, though there are many more of these situations. Financial distress is easier to recognize with public companies, but events that arise at private firms can also show up on your radar. Failure to meet a loan covenant, inventory fluctuations, acquiring a merchant advance loan, deteriorating financial statement trends (if you can get financials from your customers), high employee turnover, and cyber-attacks, among many other things, signal financial distress.
Collection Activity: Conduct a thorough credit review to assess the debtor's financial health. You will need to determine if a default is imminent or down the road. In the latter case, you may want to find ways to reduce your exposure while still making profitable sales. Credit enhancements such as credit insurance, UCC Security Agreement filings, and even buying a Put Option can help mitigate your risk on future sales while you work out payment arrangements (including using promissory notes) to clear the old debt. If default is imminent or the debtor is uncooperative you may need to turn to a collection agency for help. Should the result possibly result in the customer ending up bankrupt, you need to be careful to structure your recoveries so as not to expose your company to an unnecessary preference claim.
10. Bankruptcy Filings: When a business debtor files for bankruptcy, or other creditors force your customer into bankruptcy, your collection efforts must cease. However, there may be legal remedies that you can pursue.
Collection Activity: Consult with legal counsel to understand the implications of the bankruptcy filing on debt recovery. File proof of claim forms and participate in bankruptcy proceedings to maximize chances of recovering debts owed. You also may be able to file a reclamation claim for goods delivered shortly before the bankruptcy filing.
11. Attempts to Evade Debt Obligations through Corporate Restructuring or Asset Transfers: Sometimes, a corporate debtor will attempt to evade debt obligations by engaging in corporate restructuring, asset transfers, or other tactics aimed at circumventing creditor claims. Any indications that a customer is involved in a merger, an acquisition, or other restructuring, such as reported in a Bulk Transfer notice, should trigger closer scrutiny on your part.
Collection Activity: Monitor debtor activities for signs of asset transfers or corporate restructuring designed to evade debt obligations. Seek legal advice to challenge such actions and pursue recovery of outstanding debts through legal means.
A Few More Words About Bulk Transfer Notices
When you receive a bulk transfer notice, it typically indicates that the debtor (your customer) is transferring a significant portion of its assets to another party. Bulk transfers often occur in business transactions such as mergers, acquisitions, or asset sales. Creditors should take prompt action to protect their interests and ensure that any outstanding debts owed to them are not jeopardized by the transfer. Here's what you should do if you get such a notice from a customer:
Review the Notice: Identify the parties involved, assets being transferred, and the effective date. Assess how the transfer impacts the debtor’s ability to fulfill its debt obligations.
Verify Compliance: Ensure the bulk transfer adheres to legal requirements, such as the Uniform Commercial Code (UCC) provisions. Confirm that the debtor has notified creditors within the specified timeframe.
Communicate: Engage with both the debtor and transferee. Address any concerns arising from the transfer. Seek clarity on creditor claims treatment and negotiate if possible.
Seek Legal Advice: Consult an experienced creditor’s rights attorney. Formulate an appropriate strategy to protect your interests.
Exercise UCC Remedies: If solvency concerns arise, consider demanding performance assurances or seeking an injunction to halt the transfer pending resolution of claims.
As with all these triggers, receiving a bulk transfer notice requires prompt and vigilant action on your part to safeguard your company’s rights. Whenever there is a potential, or actual, negative change in a customer’s credit status, you need to react promptly or risk an opportunity to collect what you are owed.