What is credit management? Master Cashflow Predictability

January 10, 2024
5 min.

Explore what is credit management and its impact on cash flow predictability in our comprehensive guide. Master the art of credit management now.

What is credit management? A critical business strategy that can make or break your cash flow. Credit managers have a clear goal: get cash in the door as efficiently as possible. By “efficiency,” we mean helping the sales team hit their goals while safeguarding the business from falling into the late payments trap.

In this article, we'll delve into the intricacies of credit management, providing you with the insights you need to achieve robust sales and financial stability for your business.

What is credit management?

Credit management is the strategic approach to defining who your business can safely offer credit to, under what terms, and then ensuring those payments come in as agreed. It's not just about approving customers for credit; it's an ongoing process that involves setting credit limits, monitoring incoming payments, and assessing the financial health of your customers over time.

Done right, credit management can be a game-changer for your business, offering a level of cash flow predictability that can be the difference between merely surviving and truly thriving.

What is the primary goal of credit management?

The main objective of credit management is to strike a balance between minimizing financial risks and maintaining a steady cash flow. It's about lending money or extending credit in a way that safeguards your business from the pitfalls of late or missed payments.

By meticulously overseeing the lending process and continuously evaluating the financial reliability of your customers, credit management ensures that your cash coming in consistently outweighs the money going out.

Some key metrics credit managers are continually monitoring are: ​​Days Sales Outstanding (DSO), Profit Per Account (PPA), Accounts Receivable Turnover Ratio (ART),  Current percentage, Bad debt, and Collection Effectiveness Index (CEI).

What is the difference between credit control and credit management?

Main differences between credit control and credit management

While credit control and credit management play crucial roles in safeguarding your business's financial health, they serve different purposes and involve different activities. Here's how they differ:

Credit Control:

  • Initial Screening: It's the first step in deciding who gets credit. It's about identifying customers who are likely to pay you back on time.
  • Sales Focus: Aims to boost sales by offering credit options to customers but with a keen eye on minimizing risk.
  • Internal Process: Usually managed in-house, covering a broad set of activities beyond just collecting debts.
  • Risk Mitigation: Focuses on preventing bad debts and late payments by setting appropriate credit limits and terms.

Credit Management:

  • In-Depth Analysis: Goes beyond initial screening to continually assess customers' creditworthiness.
  • Monitoring and Reporting: Keeps an eye on payment behaviors and maintains detailed records to catch any red flags early.
  • Comprehensive Techniques: Utilizes a range of financial analyses, like cash flow and risk analysis, to make informed credit decisions.
  • Decision Support: Aids in making prudent financial choices, ensuring the business or lender effectively manages credit risks.

Credit control is your first line of defense, ensuring you're doing business with customers who are likely to pay you back. Credit management takes it further by continuously monitoring and analyzing customer behavior to prevent late or missed payments. Both are essential for achieving predictable cash flow and long-term financial stability.

Is credit management the same as collections?

Think of credit management as the proactive strategy that sets the stage—deciding who gets credit and how much, and keeping an eye on customer payments. Collections, on the other hand, is the reactive part. It kicks in when payments are overdue, and its primary focus is to recover those outstanding amounts.

While some businesses manage credit in-house and outsource collections, both functions are essential components of the broader "order-to-cash" process, contributing to a stable cash flow.

What are the main credit management tasks?

A list of the main credit management tasks

Here are the tasks that every SME owner should be proficient in achieving cash flow predictability and financial stability through credit management.

1. Writing a Credit Policy

A credit policy serves as your business playbook for all things credit-related. It outlines the rules for payment terms, late fees, credit limits, and even actions to take for non-payment. This document should be dynamic, regularly updated, and reviewed to reflect the changing financial landscape and your business needs. It sets the stage for how you'll manage credit and ensures everyone on your team is on the same page.

2. Client Assessment and Approval

Before extending credit, it's vital to assess a potential client's financial standing thoroughly. This is also known as the “Credit Analysis” process and is a delicate balancing act. A lengthy assessment process could deter clients and send them to your competitors, while a lax approach could expose your business to unnecessary risks. The goal is to have a streamlined yet rigorous assessment system that gives you the confidence to extend credit without jeopardizing your business.

3. Credit Extension

Once a client has been approved, the next step is to extend credit terms that are mutually beneficial. This could mean issuing credit notes or offering financing options tailored to each customer's payment history and needs. Extending credit isn't just a necessity for retaining business; it can also boost your sales and foster customer loyalty. However, each credit extension should be made with careful consideration to minimize risk.

4. Tracking Customer Credit

Keeping an eye on customer credit is an ongoing task that requires meticulous attention to detail. This involves monitoring your sales ledger and prioritizing collections based on payment statuses. For businesses dealing with other businesses (B2B), this could also involve dunning procedures to manage late payments. Effective tracking ensures you're proactive about collections and helps you identify potential issues before they escalate.

Wrapping Up

Understanding the ins and outs of credit management is a strategic imperative for SME owners. As an owner, mastering credit management is your ticket to achieving predictable cash flow and sustainable growth.

Ready to take control of your financial future? Start implementing these credit management strategies today.