Debtors arise where customers arrange to pay via a credit term. As such, debtors are a part of almost every business’ fabric. Because debtors owe your business money, this group requires meticulous management to preserve business financial health.
Continuous monitoring is an important habit to form. Be sure you always have your finger on the pulse of:
- Anticipated levels of investment in debtors
- Days outstanding for each individual debtor
- Debtor systems performance
Optimum efficiency in debtor management systems is critical. Where performance or functional gaps are identified in such systems, these should be addressed immediately. Proactive directors continuously evaluate:
- Documentation systems in place to track correct procedure and risk management of enabling new customers to obtain products on credit terms
- Prompt preparation and dispatch of tax invoices to customers in order to potentially spur earlier payment
- Timely debtor statement preparation to speed receipt of payments. Many debtor businesses will not even consider paying their outstanding credit terms until they receive a debtor statement. Tardy debtor statements or failure to send these can drastically put the brakes on debtor payments and drive up debtors’ days outstanding
Another important factor that you must consider is the viability of calculated debtors’ days outstanding when weighed against business budgets. Reducing debtors’ days outstanding is certainly a worthy undertaking but the margins must be realistic. Say you make an undertaking to reduce debtors’ days outstanding from 60 to 30 days. You may encounter a major cashflow difference between 60 days outstanding and 30 days outstanding. Lack of realistic forecasting can indicate that your business requires more bank funding rather than tighter debtor terms, so always assess your debtor management and outcomes in your broader business context.
Every sound budgeting process includes a creditors’ budget. Initially, your creditors’ budget should be based on your business’s current payments to creditors. Your work is not done yet though. From here, you should place predicted creditors’ days outstanding under the microscope. What you are seeking is a clear picture of how the creditors’ days outstanding tally compares to the negotiated payment terms your business has with its suppliers. Armed with this knowledge, you will be in a strong position to assess whether your business is trading beyond the agreed credit terms and if so, by how much.
Take a probing approach when evaluating your adherence to agreed credit terms. Consider how your business would meet its financial commitments if several creditors insisted on being paid strictly in accordance with their negotiated payment arrangements. Could you satisfy these financial commitments? Conversely, take a look at whether your business is able to make payments at a faster rate than it is currently.
Ultimately, your goal is to ensure your key working capital budgets have been established on realistic figures. Debtors and creditors are two core working capital components and as such, require careful ongoin