Last week a number of people contacted me regarding the sudden Axium/Chimes bankruptcy out of California. Apparently, the company had a large concentration of business in Hollywood and the writers' strike crippled their ability to cash flow the business. Unfortunately, thousands of companies around the company are out millions of dollars in losses because of this far-away bankruptcy including hundreds of companies here in Minnesota. Most likely, many of these companies will now follow suit and close their doors as well.
How could this have happened? First and foremost, some of the companies suffering losses had the same customer concentration problem as Axium/Chimes: one customer accounted for too much of their total revenue. Secondly, too many of these businesses didn't even consider Axium/Chimes as their customer in making business decisions, as they had no choice from the end user but to bill through Axium/Chimes. Thirdly, and most importantly, many of the companies I talked with had NO IDEA that Axium/Chimes posed any type of loss possibility to their receivables.
Customer concentration is a huge risk for all size companies, but especially small businesses. Not only does concentration give too much power to the customer in negotiating, but it usually results in lower margins. In the case where the customer isn't an "A+" credit, the concentration can be deadly as we'll see with many of the smaller customers losing their businesses.
Why didn't these companies consider Axium/Chimes as their customer? Because their RELATIONSHIP was with the end customer. They failed to fully understand the impact of having the "customer in the middle" where the risk lies. While the customer relationship may have been where their people physically resided in providing services to the end user, their real customer is the one who paid the bills: the now bankrupt Axium/Chimes. Apparently, many of them didn't have well-defined contracts and actually THOUGHT the end user was the customer.
Speaking of billing on credit, how could so many companies not understand the credit risk of dealing with this company? Easy--very few did any research on the financial stability of the customer. They secured the business, priced it, and started billing it. They thought that payments would be somehow "automatic" once you started billing. If this were true, there'd be no need for credit managers employed throughout the world.
Determining creditworthiness is sometimes a complex process, but it's critical to understand the probability of default when you decide to grant credit terms to a customer. In this case, Chimes had had a precarious financial situation for at least 4 years--the time we started analyzing them. Even before they were acquired, the company had a high risk of defaulting on payments.
Creditors have got to decide what amount of risk warrants an in-depth look at the risk. When they understand the risk, they can then employ strategies like following up immediately on past dues, billing often, and holding service until the customer is current to minimize potential loss exposures. If the risk were known in this case and the margins were insufficient to make up for any losses, a company could have chosen to walk away from the business.
Know thy customer is the #1 rule when you are deciding whether or not to take on a client and bill them on credit. It's too late for some of the creditors in this case. However, the rest can look to this as a warning to understand the risk that's left in its portfolio.
Friday, January 18, 2008
Friday, January 11, 2008
Who Needs to Know?
When my teenagers approach me with a bit of fear in their voices, I know they're about to ask me for money. Generally, they're not asking for school lunch money because that conversation goes more like "I need money for lunch". It's easy for them to be direct and confident when they know the answer is a foregone conclusion. It's not so easy for them to ask us if they need money to go to the movies or shopping for clothes they don't need. Then, we parents start firing questions like: "why do you need that?" or "didn't you just see a movie with your friends last weekend?"
I've had a number of conversations this week with financial people who are fearful about asking their customers for financial information. Just as with my teenagers, they're afraid of the responses back from the customers: "Why do you need this information?" "What will you be doing with it?"
Credit Managers need to remind the customers that they're providing hundreds of thousands, even millions of dollars of unsecured credit to them without understanding the probability they'll be paid on time or at all. In exchange for a large credit line, the credit manager is owed financials to justify the line.
Typically, credit managers' only inkling of future payment ability is by reviewing credit reports and internal payment records--ie, how the company has performed in the past. How many banks could you walk into and get $500,000 credit without showing them financials? None! This practice, though, is common for trade creditors.
Credit managers tell me customers don't want to provide financials. I say there are only 2 reasons for reluctance from the customers: 1) They don't trust what you're doing with the information and/or 2) The information won't have a positive effect on your relationship with them.
To alleviate the fear that you'll do something nasty with their financials (like showing them to your sales managers or posting on the internet), provide customers with a confidentiality agreement. This will give them some sense of trust that only your credit department will be looking at them--and no one else. Also, tell them exactly why you need it (ie, your credit line has exceeded the maximum amount we can give to a customer without financials).
If the customer is afraid that you'll see things they don't want to see, you should at least get basic information to help you make a decision. Many companies won't share their P&L's (for fear suppliers will think they make too much money and will raise prices) but will hand over balance sheets. Great--take them! Always ask for balance sheets, income statements, and cashflow statements. If we only get partials, we then model the remaining part of the statements to measure changes in financial performance. That's one of the biggest keys to analyzing risk: comparing the condition of the company from period to period.
When you only have the choice of one statement, I'd choose the cashflow statements (bank reference will give you cash asset totals from the balance sheet). After all, companies don't default because they run out of sales or assets. They fail to pay you because they run out of cash.
If you want to accurately assess the risk of default of your customers, you need to analyze financial performance. Don't be afraid to approach your customers for the information. Sign confidentiality agreements, meet them in their office or obtain partial financials over the phone to get what you can to make better informed decisions. The more information you have about the customer, the better the credit decision.
Who needs to know? YOU DO!
I've had a number of conversations this week with financial people who are fearful about asking their customers for financial information. Just as with my teenagers, they're afraid of the responses back from the customers: "Why do you need this information?" "What will you be doing with it?"
Credit Managers need to remind the customers that they're providing hundreds of thousands, even millions of dollars of unsecured credit to them without understanding the probability they'll be paid on time or at all. In exchange for a large credit line, the credit manager is owed financials to justify the line.
Typically, credit managers' only inkling of future payment ability is by reviewing credit reports and internal payment records--ie, how the company has performed in the past. How many banks could you walk into and get $500,000 credit without showing them financials? None! This practice, though, is common for trade creditors.
Credit managers tell me customers don't want to provide financials. I say there are only 2 reasons for reluctance from the customers: 1) They don't trust what you're doing with the information and/or 2) The information won't have a positive effect on your relationship with them.
To alleviate the fear that you'll do something nasty with their financials (like showing them to your sales managers or posting on the internet), provide customers with a confidentiality agreement. This will give them some sense of trust that only your credit department will be looking at them--and no one else. Also, tell them exactly why you need it (ie, your credit line has exceeded the maximum amount we can give to a customer without financials).
If the customer is afraid that you'll see things they don't want to see, you should at least get basic information to help you make a decision. Many companies won't share their P&L's (for fear suppliers will think they make too much money and will raise prices) but will hand over balance sheets. Great--take them! Always ask for balance sheets, income statements, and cashflow statements. If we only get partials, we then model the remaining part of the statements to measure changes in financial performance. That's one of the biggest keys to analyzing risk: comparing the condition of the company from period to period.
When you only have the choice of one statement, I'd choose the cashflow statements (bank reference will give you cash asset totals from the balance sheet). After all, companies don't default because they run out of sales or assets. They fail to pay you because they run out of cash.
If you want to accurately assess the risk of default of your customers, you need to analyze financial performance. Don't be afraid to approach your customers for the information. Sign confidentiality agreements, meet them in their office or obtain partial financials over the phone to get what you can to make better informed decisions. The more information you have about the customer, the better the credit decision.
Who needs to know? YOU DO!
Friday, January 4, 2008
No Letters Please
Happy New Year! It was a fun holiday season, but it's time to take down the decorations and get back to work now. There's something about getting back to our routines that just feels right. I'm the type of person who needs that "fresh start" so I feel ready to take on new challenges. Maybe it's from living in Minnesota where we have 4 distinct seasons and fresh starts every 3-4 months.
As I look through all the letters and cards I received from friends far away during this season, I think about how nice it is to keep in touch with people--to say "hello", to let everyone know how you're doing, and to read about all the fabulous accomplishments of your friends' perfect children. So, what about beyond the holiday season? While most of us look forward to getting our mail during the holidays, we're not so eager to run to the mailbox in February or July. We've come to expect bills and junk mail the rest of the year. So, we become very blase' about written communications when we can't get excited about what's inside.
When people ask me about collection strategies, they're always so excited to show me their collection letters. Now, granted, most of these letters are bloated with too many pointless phrases like "thank you for your attention to this matter" and "you've been a valuable customer to us". Mostly, however, creditors are missing the point: letters aren't NEARLY as effective as telephone calls in getting companies to pay you; they should be used on an extremely limited basis.
People expect letters as part of their junk mail at work. If they're like me, they go through their inbox every few months to make sure there isn't something important they're missing. For most people, they tend to ignore letters--especially the collection kind. This is especially true if they have cash flow challenges. No one will necessarily see them tossing your letter into the garbage, but it's incredibly difficult to keep dodging those pesky collection calls.
So why don't creditors just make the calls? Many claim not to have the time (translation: deficient process, terrible technology or both). In reality, though, most just don't want to call. It's much easier to tell your boss that "the account has been worked" with a letter/email/fax than to pick up the phone and make the call. This is especially true if the collector doesn't deal well with rejection ("Now what? They don't want to pay!"). The letter strategy works much better for the customer not paying the bill than for the creditor trying to collect.
It's weird to walk through a credit department and not hear anyone making collection calls, but it's strangely common. Why are they there? What are they doing? Weren't they hired because the receivables are past due?
Whether your customers are small businesses, government, or larger companies, they'll respond much better to a live person on the phone asking for money than to some notice they can delete or toss. They've already mastered the "dump the junk mail into the recycle bin" at home in February and July--but they'll still hit the button to listen to those voicemails!
As I look through all the letters and cards I received from friends far away during this season, I think about how nice it is to keep in touch with people--to say "hello", to let everyone know how you're doing, and to read about all the fabulous accomplishments of your friends' perfect children. So, what about beyond the holiday season? While most of us look forward to getting our mail during the holidays, we're not so eager to run to the mailbox in February or July. We've come to expect bills and junk mail the rest of the year. So, we become very blase' about written communications when we can't get excited about what's inside.
When people ask me about collection strategies, they're always so excited to show me their collection letters. Now, granted, most of these letters are bloated with too many pointless phrases like "thank you for your attention to this matter" and "you've been a valuable customer to us". Mostly, however, creditors are missing the point: letters aren't NEARLY as effective as telephone calls in getting companies to pay you; they should be used on an extremely limited basis.
People expect letters as part of their junk mail at work. If they're like me, they go through their inbox every few months to make sure there isn't something important they're missing. For most people, they tend to ignore letters--especially the collection kind. This is especially true if they have cash flow challenges. No one will necessarily see them tossing your letter into the garbage, but it's incredibly difficult to keep dodging those pesky collection calls.
So why don't creditors just make the calls? Many claim not to have the time (translation: deficient process, terrible technology or both). In reality, though, most just don't want to call. It's much easier to tell your boss that "the account has been worked" with a letter/email/fax than to pick up the phone and make the call. This is especially true if the collector doesn't deal well with rejection ("Now what? They don't want to pay!"). The letter strategy works much better for the customer not paying the bill than for the creditor trying to collect.
It's weird to walk through a credit department and not hear anyone making collection calls, but it's strangely common. Why are they there? What are they doing? Weren't they hired because the receivables are past due?
Whether your customers are small businesses, government, or larger companies, they'll respond much better to a live person on the phone asking for money than to some notice they can delete or toss. They've already mastered the "dump the junk mail into the recycle bin" at home in February and July--but they'll still hit the button to listen to those voicemails!
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