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Expert Information - 14.09.17

Receivables Management

Avoiding Payment Defaults with proALPHA

While the German economy is booming, the volume of receivables stagnates. According to the latest indicator published by the collection agency Creditreform, in the second half of 2016, invoices were settled ten days after the due date on average, which is a slight increase compared to the previous year. The long life of loans locks up capital and reduces liquidity. This might lead to bottlenecks, which endanger companies' ability to act in the worst case. The consequences of a payment default are even more severe, as the following example shows: a company with return on sales of 5 percent would have to generate additional sales of €100,000 to compensate for a payment default of €5,000. Moreover, banks often react to poor receivables management by downgrading a company's creditworthiness.

International Business Involves Risk

Slow cash return especially poses a risk in international business, where margins tend to be low due to fierce competition, as it is the case in the solar industry. Further risks are fluctuating exchange rates, an ever changing economic climate, and local payment behavior that is hard to predict. This particularly affects companies who do project business and therefore have to make large payments in advance, such as companies operating in the IT sector and the mechanical and plant engineering industry. Another difficulty is that receivables management in foreign countries is more complicated because not only the language but also the legal system and culture is different. According to a Creditreform study, creditors dun foreign debtors up to seven times before they either give up or go to law.

Late payments also present a challenge at home: if partial or installment payments are made late in plant engineering, production either has to be put on hold or is not started at all. Such a standstill is not only extremely expensive but might also lead to short-time work.

Collecting Debts Early On

Dunning notices alone are not sufficient to collect receivables. If companies start to think about defaulters only after they have provided a service or delivered goods, it's already too late. The best way is to take appropriate measures before a deal is closed. In addition, companies should organize related internal payment processes as efficiently as possible. A state-of-the-art ERP software like proALPHA supports them in doing so, as the following examples show.

1. Checking Customers' Creditworthiness

The payment behavior of new customers is hard to predict. Even the creditworthiness of long-time customers may change over time. To reliably assess risks, customers' creditworthiness has to be checked regularly. However, it is difficult or even impossible for companies to obtain related information. Many small and mid-sized enterprises therefore cooperate with credit reporting agencies. Since requests have to submitted manually in general, they are often not made at all. But if the ERP system is connected with the credit reporting agency via an interface, credit checks become a mandatory standard procedure, which reduces the default risk. This is of great benefit when doing business abroad because the payment behavior of foreign customers is hard to predict. A direct connection to the collection agency even allows credit checks to be carried out proactively and automatically in the background: if the agency reports negative events, a workflow immediately changes the available payment method to "Advance Payment". This helps avoid risks from the outset.

2. Monitoring Receivables

The core business of most companies does not include the collection of receivables. Especially when business is going well, companies are likely to lose track of their receivables. proALPHA generates daily reports on current receivables. Since graphics and tables can be analyzed with drilldown functions, detailed information is retrieved fast. All processes and documents are saved with the respective customer record so that the sales department always has an overview of customers' open items at hand. Before the next appointment with a customer, these data can be conveniently accessed using a smartphone or tablet. This enables sales employees to make customers aware of an unsettled invoice during a phone call or appointment, which is much more effective than sending an impersonal dunning notice. At the same time, each step is automatically documented, which is essential if legal action has to be taken.

Consistency is essential for effective receivables management. Dunning notices should therefore be sent promptly after the due date, and not only after weeks or months. This can be ensured with software-based, automatic dunning runs. However, companies should stop sending dunning notices at some point. If a fixed payment date can be found on the invoice, customers are in arrears even if they do not receive a payment reminder. A maximum of two dunning notices ─ or three, if a customer is usually reliable ─ should be sent before legal action is taken.

3. Reducing Errors

Receivables management is located at the very end of the value-added chain. If data from upstream processes have not been entered accurately, companies will suffer the consequences at this stage at the latest. Incorrect bill-to addresses, missing order numbers, ambiguous due dates and transposed digits in tax IDs ─ these factors, too, may be reasons why invoices are paid late. Some of these errors can be avoided, for example, by using cloud services to verify customer addresses and tax IDs. Standardized masks help reduce the error rate when customer records are created. Missing or incorrect data can be detected early on by means of plausibility checks, for example.

4. Issuing Invoices Fast

Invoicing in project business is often complicated. In addition, customers often attach great importance to formalities. Companies should therefore agree with their customers on the conditions for issuing partial invoices already during the contract negotiations. It is easier to create invoices based on the work time and materials required than on the definition of a specific project stage. ERP software even allows semiautomatic invoicing by means of workflows in this case. 

5. Taking Legal Action

If customers do not react to dunning notices, companies have no other option but to go to law. They can either request that a summons is issued or have an expert take care of the collection. A collection agency should be entrusted with many small invoices while a lawyer should be engaged to deal with weighty financial matters. A versatile ERP system provides special modules that help reduce the administration effort in both cases. For example, only few fields of the summons form have to be filled manually in this case, and the entire customer file can be sent to the collection agency with a single click.

Conclusion

If companies issue invoices early on and bill them on time, they can enhance their cash flow and liquidity. At the same time, the default risk is reduced. These factors place companies in a good position when negotiating with banks. Efficient receivables management offers numerous benefits and is a key component of risk management. A state-of-the-art ERP system like proALPHA establishes reliable processes and helps reduce risks. It takes tasks off the hands of employees and ensures that all receivables are constantly monitored.

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Limitation Periods

The German Civil Code BGB stipulates that the limitation period of receivables from deliveries and services expires after three years. Its expiration is determined based on the date receivables were created. An invoice does not necessarily have to be presented. The limitation period cannot be prolonged by means of dunning notices. This is only possible with a summons. Limitation periods are not clearly defined in international agreements such as the United Nations Convention on Contracts for the International Sale of Goods. The agreed place of jurisdiction is decisive here. If no regulations exist, the laws of the country apply to which the contract has the clearest reference.

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