How to Determine Whether a New Client is Worth Your Time

As tax season approaches, there may be an opportunity to take on new business clients. To say the least, it’s always a pleasure whenever a new client knocks on our door, especially when even a small tax return may gradually evolve into opportunities to provide full-scale accounting, auditing and consulting services.

But, as we have all experienced, not every client turns out to be “as good as gold.” One situation that is often a common occurrence is that some clients may end up owing a firm thousands and tens of thousands of dollars. It’s usually not intentional, but like any business, when clients end up not paying, the loss to the firm can have a devastating impact on cash flow, operations and even long-term viability.

My experience has generally been that accounting firms are not as prudent in their credit due diligence toward a new client as they should be. For some reason, it seems that inquiring into a new client’s credit worthiness just doesn’t sit well with being a professional. As accountants, we like the idea of taking on new clients at face value, not really confirming if there are any issues that could impede the client from eventually paying us.

We just hope that it all works out.

But like in any business that provides its products and services on credit, every firm should take a step back and understand not only the credit-worthiness of a new client, but to also try and evaluate the firm’s credit risk management system. In our quest to provide all of our services with gusto, we don’t want to end up with a very large and worrisome receivable balance.

When it comes to the core of credit worthiness, we want to know if the potential client has the capability to pay its bills on time. It’s certainly no secret to understanding a new client’s cash flow situation when reading over the previous tax returns and financial statements. Many credit reporting companies, bureaus and other credit information resources clamor for this kind of information – here, it basically drops into your lap. In other words, having almost all of a client’s financial details gives you clear insights that credit reporting companies normally need to estimate in order to support other non-financial credit data.

If a commercial client is having cash flow issues, by initiating an honest dialog, you can make this a leading opportunity to see how you can support the client and, at the same time, help to ensure you will get paid for the services rendered.

Here are the basic areas to review, confirm or propose in order to more fully grasp a client’s credit risk management system as well as cash flow and liquidity problems.

A/R Aging Report – Right here is where you want to get an overview of what accounts are outstanding and confirm the status and collection action plan for the large balances that are over 60 days. Where you can, you may want to help the client with a collection strategy for disputed accounts.

Time from Receiving the Order until Shipment and Billing – For some companies, especially in construction and the manufacturing of large equipment, completion of the product to shipment can take months. In this kind of situation, you’ll need to confirm how much the client’s customers are paying as down payments and progress payments that will sufficiently cover costs. If less than 70% is being received at the time the product is being shipped out, especially with terms over 30 days, a change for either receiving more at the time of shipment or requiring shorter payment terms should be considered.

Payment Terms – If, due to the industry and market competition that your client has to give his customers extended payment terms from 45 to 60 days or more, you may need to suggest payment terms that include discounts for early payments, especially for good customers. Generally speaking, about 10% of receivables can be paid earlier with a 1-2% discount rate if paid within 10-20 days. On companies with gross profit margins of 25% or more, a 1-2% discount is definitely affordable.

Factoring Programs – For some reason the word “factoring” doesn’t quite lay right with many accounting professionals. Yet, did you know that many blue chip companies use factoring? The industry is comprised of a couple of thousand factoring companies that specialize in all areas and industries. Through the Commercial Finance Association, you can easily search for a factor that can very cost effectively fulfill your client’s cash flow needs – and that’s for international customers as well.

Credit Cards – Many companies do not include credit cards as part of receiving their payments. For customers with smaller and regular purchases, implementing a credit card payment option can greatly increase badly needed cash flow. The good news on transaction fees is that in most states, transaction fees can now even be passed on to the customer.

Credit Controls – Reviewing how a client is extending credit to customers is paramount. If the client’s customers end up not paying the client, the client in turn cannot pay his suppliers, which includes your firm. Although the credit risk management system can be quite extensive, you can get a general understanding of the process by verifying:

  • How credit is established for new customers – how the credit levels are determined, what credit tools are used, and the chain of command as to who approves them.
  • How credit is maintained and updated for existing customers – reviewing and evaluating the payment history against the established credit limit.
  • How credit put on hold – once a credit limit is established the system should not allow any shipments to go out if the amount outstanding plus orders to be shipped exceed the credit limit.
  • How disputes are processed and resolved – you will often find that one of the reasons for poor cash flow in a company is that there are some very large receivable balances being disputed and the client can’t seem to get their arms around on how to resolve them.

It’s important to try and nip credit problems in the bud by making sure your client is following credit risk management procedures and controls that have the goal of increasing cash flow and minimizing the risk of selling on credit.

Even knowing that your new client has these credit risk management and cash flow problems doesn’t mean that it can’t be a wonderful new client for you. It just takes sitting down with the prospect, pinpointing the reasons for cash flow challenges, and helping the work through these matters. Not only will you endear yourself to your new client; you will also be directly participating in the client’s well being and ensuring that payments for your services will be forthcoming as well.