A better approach to collections

August 24, 2015 Scott Simpson

Would your approach to collecting delinquent payments from a customer vary if:

  • You knew the contractor was going out of business?
  • Your contractor’s business is about to double and you stand to benefit?
  • You’re actually losing money on this customer?
  • Your customer has been a loyal, profitable customer for the last 10 years?

Of course it would. Then why do most dealers have a one-size-fits-all approach to collecting late payments? 

Consider each customer's risk and profitability to determine your best collections approach

Every situation isn’t the same and we advise dealers to be strategic about how they collect. What we mean is that dealers should take efforts to properly assess the true risk of not getting paid and also understand the relative profitability (or lack thereof, sometimes) of the customer. Putting those two pieces together gives you a simple, powerful framework for how you should approach collecting. 

To really understand which customers are in trouble, pull credit three times a year and look at trends that matter. There are obvious warning signs such as delinquent accounts with other dealers. A more subtle one might be a contractor whose borrowing amounts are steadily creeping up to historical highs. To understand the true profitability, go beyond looking at gross profit dollars to factor in a customer’s share of your delivery, administrative, borrowing, inventory, and other costs. For example, it’s important to reflect that someone regularly paying you slowly could be costing you 2%-4% more than your average customer. That can often make the difference between a customer being profitable and unprofitable.

Do this analysis at least once a year and then chart where your customers are on a 2x2 risk vs. profitability map. 

Hopefully, many of your customers will fall into the “Love” quadrant. They are low risk—they always pay on time, they don’t have any trade delinquents—and they have good profitability. We would be blessed if all customers were in this box. That’s certainly the aspiration, but unfortunately not the reality.

The “Escape” quadrant in the lower-left is the opposite. These customers are not only high risk, they are also zero or negative profitability for you. These are customers that are about to tip over and they are already costing you money. Run far and run fast.

The key is to protect yourself and take the worst case off the table.

The other two quadrants are more challenging. Some customers will be high risk but profitable. These belong in the "Protect" quadrant. They are extending themselves pretty far and are causing you concern. The key here is to protect yourself and take the worst case off the table.

Your remaining customers are in the "Address" quadrant. These are low risk, but are low or unprofitable customers. They could be well-established companies that don't have any problem paying you. But they're paying you slowly,  have price discounts or they have delivery considerations - for these reasons or others you're actually not making any money on these accounts.

So what does it mean to tailor your collections approach? For the "Love" customers that are high profitability and low risk, liberally waive their fees, thank them for their timely payment, and treat any collections call as a polite reminder. Lateness here is often a bookkeeping error or something that got missed.

For the "Escape" customers - those that are ready to tip over - suspend the account if you haven't already. Move them to COD, assess fees, prepare and file liens, and if it gets delinquent enough, consider a collections agency. These are customers that are not likely to continue to be customers and may not be in business much longer.

The "Address" customers are low profitability and low risk. Collections calls are always polite reminders here but you should confidently assess fees or modify pricing to help improve their profitability. 

spreadsheet reexplaining the LEAP quadrant

Lastly, the "Protect" quadrant is really about taking the worst case off the table. A customer may be 60 days late, bumping into a pre-set line that you’ve set, and looking to buy more. This is the time to ask them to pay down the line. This is also the time to monitor them more frequently. A monthly pull from a credit bureau may be necessary, and be ready to take more aggressive action if the risk worsens. Things might be fine, but if they're not, you are positioned to take action. 

A one-size-fits-all approach is straightforward and easy to execute but there is a better way. It takes just a little upfront effort to understand customer risk and profitability. The benefits are worth it, I promise you.

About the Author

Scott Simpson

Scott is president and CEO of BlueTarp. He has spent the majority of his twenty year career in financial services helping businesses grow more rapidly through the effective use of credit.

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