6 Do-or-Die Reasons to Credit Check Your Customers and Suppliers

Credit checking potential customers and suppliers is particularly crucial for small businesses.

That’s because small businesses are more likely to have their invoices delayed which puts pressure on their cash flow. This eats into their typically thin margins and low cash reserves.

You should also continually monitor existing customers and suppliers to detect any changes in their risk profiles.

To help you in this process, we’ll explore the six critical reasons to credit check suppliers and customers.

Reasons to Credit Check Your Suppliers

Both B2C and B2B businesses can benefit immensely from credit checking their suppliers.

Here are the key reasons why.

Getting Better Trade Credit Terms

Trade credit is an agreement in which suppliers allow businesses to delay payment for already delivered goods and services. Evidently, this can help you better manage short-term cash flows.

You’re likely to get more favorable trade credit terms with financially stable suppliers who have good business credit.

In this regard, research shows that flexible two-part trade credit contracts can reduce retailers’ total cost. Here, you pay a discounted price for a fraction of the cost within a short period, and full price for the rest within the contract maturity.

Avoid Delivery Delays

Suppliers with poor credit are more likely to face financial challenges leading to delivery delays.

This will impact your business, forcing you to look for new providers urgently and leading to poor customer service. Unsatisfied customers may cancel their orders or even terminate their business relationship with you.

You can only be assured of uninterrupted service and reliable delivery from suppliers with good credit.

Therefore, a supplier credit check is indispensable, especially when dealing with a dedicated provider that you rely on for all deliveries.

Reasons to Credit Check Your Customers

Credit checking your customers is useful for B2B businesses. It’s crucial for businesses serving just a handful of clients; since any issue affecting your clients can drastically impact your bottom line.

To get a better understanding, here are a range of specific reasons to credit check your customers.

Avoid Late Payments

Data from OptiPay’s research shows that invoices for Australian businesses are taking one week longer on average before payment (currently 38 days up from 31 days). The overdue duration is likely longer when dealing with customers with poor credit.

This is sure to put pressure on SME’s cash flows, and slow down business operations and growth.

The June 2022 Business Risk Index by CreditorWatch paints an even more depressing picture. It highlights an increase in businesses with payments in arrears by 60+ days in nearly all industry sectors.

Therefore, it’s essential to be extra vigilant in selecting financially healthy customers at this time.

Avoid Costly Invoice Financing

Delayed payments from financially challenged customers may force you to take up invoice financing to manage your cash flow problem. Invoice financing from banks or other financial institutions helps you to cash in orders from customers immediately instead of waiting for delayed payments.

However, you’ll incur an interest fee on the invoice amount.

The Guardian reports that various Australian importers have recently been forced to take up such an alternative financing arrangement due to supply chain issues.

You can potentially avoid such a scenario by vetting customers and only partnering up with financially healthy businesses.

Avoid Payment Defaults

According to the August 2022 CreditorWatch Business Risk Index (BRI), trade payment defaults surged to the highest point since October 2020. The payment defaults shot up to a massive 53% year-on-year.

Hence, B2B businesses should be even more cautious at this time when on boarding new customers. Carefully select customers with good credit who are less likely to default on payments.

This is particularly crucial for businesses operating in the following five regions that are expected to have the highest risk of default:

i. Merrylands-Guildford (NSW): 7.78%

ii. Canterbury (NSW): 7.52%

iii. Surfers Paradise (QLD): 7.46%

iv. Auburn (NSW): 7.41%

v. Ormeau-Oxenford (QLD): 7.38%

Also, take note of the following industries that are expected to have with the highest probability of default:

i. food and beverage services: 7.20%

ii. arts and recreation services: 4.68%

iii. education and training: 4.63%

Avoid Insolvency

Evidently, if customers default on payments, you’ll incur losses and might eventually go out of business.

The chances of this happening increase dramatically when dealing with customers who have poor credit.

Businesses should be keenly aware of this serious risk in the current period whereby court actions (a key indicator of insolvency) have risen 51% year-on-year. Furthermore, CreditorWatch forecasts a further rise in business insolvencies caused by supply chain disruptions, rising interest rates, high inflation, and labour shortages.

How to Credit Check Your Business Partners

The first step to evaluating the financial health of customers and suppliers is running a credit check.

This can be done through companies that offer credit checks and monitoring, such as:

• CreditorWatch – CreditorWatch’s business credit check reports are compiled from public and private data sources like ASIC (The Australian Securities and Investments Commission), ATO (Australian Taxation Office) tax default data, court data, and their databases.

• Equifax – Equifax’s SwiftCheck Company Credit Report shows company risk profiles.

• Dun & Bradstreet – Dun & Bradstreet provides the D&B Credit Intelligence report.

Credit reports from these companies typically feature:

• grading of a company’s default risk

• the number of credit enquiries by a company

• ATO tax defaults

• defaults registered against a company

• court action

• ASIC notices published against a business

• cross directorship information

• other adverse data

The reports can also provide credit limit recommendations indicating how much credit should be outstanding for a particular company.

Seek Professional Accountants to Evaluate the Financial Health of Business Partners

Apart from running a credit check, Cleverly Accounting – a professional accounting firm – can provide an even more in-depth evaluation of the financial health of your customers and suppliers.

This involves extensive analysis of the business financials including:

- calculating a company’s profitability ratios

- calculating a company’s liquidity ratios (the ability to meet short-term obligations)

- calculating a company’s activity ratios (the ability to convert balance sheet accounts to cash or revenue)

We’ll evaluate many more performance indicators to provide the most comprehensive financial health report of your business partners.

Call us on (08) 6186 1998 or book an obligation-free 15-minute discovery call.