When your customers use you as a bank
This article first appeared in MG Business in June 2006
Something which comes up regularly in our seminars is the issue of big customers blatantly and unashamedly overriding a creditor's payment terms. What can you do? The contract says that payment is due on a particular day, but the customer says, in effect, we'll pay when we want to. Because the customer is big and important, you just have just accept this. For a smaller customer, you would put them on stop credit, but you can't do that with a customer that you sell this much to - they're too important to your business.
Why do they do this? Well, some of them may be financially embarrassed and simply not have enough money to pay all of their creditors, but generally those businesses are a little more humble. In a way I can empathise with the owners or directors of a business which is trying to make a dollar but the costs are higher than anticipated or the sales aren't coming as fast as they'd expected so they're scrambling to keep the ship afloat.
What irks me more is businesses where it's considered good cash management to use your creditors as a bank. If they delay paying their creditors, they delay using their overdraft and therefore they delay incurring interest. Or perhaps it's just that they are a high volume-low margin business. They sell big volumes of whatever they sell, but they make only a small profit on each sale. So the money they save by not paying you and all their other suppliers for an extra month or two may be significant to their profit as well as their cashflow. Of course, it's not an ethical way to do business and of course it's not a way to make your suppliers appreciate doing business with you, but they don't care about those considerations.
Many small businesses use their creditors as a bank too, though generally in a less sophisticated way. The classic approach is to write out the cheques, then wait to see if the creditors ask for them. If they don't ask, obviously, they don't want them. Sometimes the policy is that they have to ask twice... or even three times. I should also point out that there are lots of businesses, large and small, which pay their accounts when they are due. They do this because they're honest and it's the way they want to be treated themselves, because their employees will appreciate working in a business that has those sorts of attitudes, and perhaps because they know that good relationships are important in business, and people like good payers.
So what do you do with a big business that's using you as a bank - treating you with arrogance by ignoring the payment terms and paying you when they feel like it even though they could, if they wanted to, pay by they due date?
The first question is whether your business can manage its own cashflow in the face of this behaviour. It's not unknown for small businesses to fail when big businesses drag their heels on payment. The next question is how much money are you making out of them? If they negotiated a really low price, cause you grief with unreasonable demands for credits, then pay late, how much money are you really making out of them?
If it turns out that the answer is "a lot", then presumably this is a customer you have to keep. If so, you might simply have to accept that late payment is part of the deal. Try to build that into your prices in future. However, you might also think about whether this problem can be overcome by involving some different players.
I know a credit manager in Australia who was told that the $1 million payment he was expecting the next day would not be paid for another 25 days, on orders from the customer's overseas parent company. Naturally, he was concerned. The interest on this at, say 9%, was over $6000, but the real concern in this case was that this was a sign of bigger problems. Perhaps the parent company was about to go under, taking the subsidiary with it.
He spoke to his managing director, who, fortunately, knew the managing director of the debtor company. This isn't that surprising as they were obviously doing significant business together, and in any case, senior managers will often meet at business or social or charity functions. In this case, MD spoke to MD and the $1 million was paid the next day, as it was supposed to have been.
One of the reasons this type of approach works is that we are programmed to respond to authority. Many credit staff will have had the experience of getting their boss to talk to the customer who's told them he/she won't pay, and finding that the boss succeeds in getting payment or a payment arrangement. It's harder, from a psychological point of view, to turn down the more important person. (An interesting psychological experiment to prove the point about responding to the appearance of importance was carried out by some academics who simply got drivers to stay where they were when the traffic light went green. A driver in an old bomb was tooted a lot quicker than a driver in a new Mercedes.)
Another factor is that talking to a new person may mean you're talking to someone with different attitudes to paying debt. The person who wouldn't pay may be looking only at saving a few dollars. The more senior person, or perhaps the person who actually uses your product, may be looking at the quality of the product and the benefits of a good relationship with your company, or perhaps at the PR cost of this sort of unethical approach.
This last point is not insignificant. Companies shouldn't be able to ignore their contractual obligations with impunity. Some big company, at some point, will punish a supplier who tries to hold them to the agreed payment terms by dropping them as a supplier. That supplier will go to the media and it will turn out to be a PR disaster for the bully. And so it should be.
Peter Hattaway - peter@hattaways.com - is a director of Hattaways. This article appeared in the New Zealand Mercantile Gazette in June 2006.