Every customer you take on represents a certain level of risk and that risk is compounded if you plan to offer them a line of credit.
As we've talked about many many times before, late payments and bad debt are a genuine threat to the existence of a lot of small businesses.
Across the UK, small businesses are owed an estimated £51.5 billion in unpaid invoices.
In the past, each new customer you took on was a coin flip on whether they would pay you on time or at all.
Thankfully, modern businesses now have more comprehensive business credit checks to call on that give them insight into a potential customer's current and historical financial information.
This financial data is a vital part of determining each new customer's risk and deciding whether to do business with them. Getting a credit report for a new customer is not only a sensible thing to do, but it's a must for any business that wants to extend customer credit responsibly. It may be even more important in certain industries, where the risk level can be higher.
Today, we'll be breaking down what a business credit check is, what the benefits are, and five excellent reasons you should consider credit checking all your new customers before signing them.
What exactly is a business credit history check?
A business credit check is essentially your first line of defence when it comes to bad creditors.
Much like a personal credit report, a business credit check looks into the financial history of your potential client and highlights any potential red flags in their credit history and payment history. It could reveal whether they have missed payments on a credit card or failed to repay a loan, among other details.
Carrying out a business credit check is a common part of due diligence when it comes to onboarding a new client and allows you to assess any potential risk before doing business with them.
How do I commission a business credit check and what does it show?
There are a range of companies that specialize in business credit checking, including Dun & Bradstreet, Coface Central Europe, Creditsafe, CRIF Bürgel, Experian, and Creditreform.
Commissioning a customer's credit report from one of these major credit bureaus is usually the fastest and most accurate way of getting an insight into your potential customer's credit history. Before you extend credit to them, you will be able to assess the level of risk involved.
It is important to note that different credit bureaus use different weighting systems and analysis patterns to determine your customer's creditworthiness.
Once completed, a business credit report generally gives your potential customers a credit score and highlights any potential business risk in doing business with them.
It also usually contains the following information:
- A business credit score.
- General information regarding the business.
- The business's payment score.
- The business's credit event history.
- The business's directors and fillings information.
When do I use a business credit report and credit score?
Generally, business credit reports are commissioned at the beginning of a business relationship, such as onboarding a new customer. Credit reports and credit scores provide useful information for decision-making when assessing potential or new customers. They should be a crucial part of your credit policies and processes.
That being said, ongoing credit monitoring is also an integral part of continuous risk assessment and it is certainly not uncommon to commission business customer credit checks on long term customers to get an idea of their financial health. Ensuring the customer's ability to manage their credit is ongoing will prevent any unexpected problems.
5 reasons you should be credit checking customers before signing them
Now that you've got a better understanding of what exactly a business credit check is, how to commission one, and when to commission one, here are five excellent reasons you should be credit checking new customers as part of your onboarding process.
1. It's an important risk assessment tool
Poor customer payment behaviour impacting your cash flow is one of the biggest risks facing small or medium businesses (SMB).
As we might have mentioned once or twice before, cash flow is the king for the small business and most small businesses rely on only a handful of repeat customers for the majority of their revenue.
While attracting new customers is clearly hugely important, attracting the wrong kind of customers can have a devastating impact on your business.
Without the capital reserves, fiscal resilience, and easy access to lines of credit available to larger businesses, SMBs can be forced into insolvency by just one or two customers not making payment on large invoices.
Chasing late payments also costs your business money and has a significant impact on your productivity.
Commissioning a business credit check doesn't guarantee that your prospective customer will make timely payments, but it can help you avoid other businesses with a history of poor payment behaviour. The credit report can reveal vital information that will help you make better-informed credit decisions about who to do business with. It's just one essential part of checking a business's history and background before working with them.
2. It can help you set customer credit limits
Setting credit limits for a new customer can be a tricky process. You want to offer them credit to encourage them to make bigger purchases, but the larger the amount of credit you offer, the greater the risk of taking them on.
As we mentioned in our guide to setting credit limits, running a business credit check should always be your first step when it comes to deciding how much credit to offer.
The same also applies to existing customers asking for an increase in their credit limit. There's no reason you can't run a credit check on current customers to determine if increasing their credit limit is in your best interest.
Extending credit in healthy amounts that work for both you and your customers is much simpler when you have all of the relevant information.
3. It keeps your supply chain moving
Non-payment of invoices can impact all aspects of your business, not just your accounts receivable.
Most smaller businesses run on tight margins and having a customer who has multiple outstanding invoices can make it hard, if not impossible to pay your own suppliers.
This, in turn, means your own supply chain grinds to a halt and you can't fulfil your own orders.
Since most smaller businesses rely on repeat business and the business relationships they've worked hard to build, not being able to make delivery on an order, even if it isn't your fault, can damage your business's reputation.
4. It allows you to set reasonable payment timeframes
We've spoken about the importance of setting out clear payment terms in the past. However, if you're a new business, you might find it difficult to gauge what is a reasonable payment timeframe to include in your payment terms.
Certain credit reporting agencies, such as Creditreform and Dun and Bradstreet offer payment performance data that sets out the average number of days it takes for a company to pay its bills.
The data for many thousands of companies is then combined into what is called a “payment pool”.
These payment pools can be used to give you a benchmark industry average that you can use to both set payment terms for your own business and negotiate better terms from your suppliers.
5. It's part of your ongoing credit monitoring process
While it's always a good idea to credit check new customers to ascertain their creditworthiness and spot any red flags before they become a problem, credit monitoring isn't a ‘one and done' process. A credit request can provide you with valuable information at any point in your relationship with a customer, vendor, or anyone else you do business with.
Running credit checks on your current customers and even your suppliers gives you valuable insight into the financial health of your entire supply chain, both up and downstream, and allows you the insight to make an informed decision on any credit-related issues.
A recent credit report can let you know if an outstanding invoice is a one-off issue that a customer can't avoid or an indication of a negative change in their payment behaviour.
It can give you an advanced warning if one of your major suppliers is experiencing financial difficulties before they suddenly fold, leaving you to scramble to find a replacement.
Effective credit control starts with you credit checking new customers, but it doesn't end there. A customer credit check is just the first step, so be sure to design an effective process for monitoring existing clients too.
Additional methods for determining creditworthiness
In addition to credit checks, it's wise to use other methods to determine the creditworthiness of a potential customer. Speaking to contacts within the industry to assess the reputation of the potential customer is a good idea.
Checking the Prompt Payment Code can be helpful too; this is a code businesses can commit to that shows their intention to make payments within strict rules. You can also look at public records of a business's finances. Use the Companies House website to look up the company and see their finances.
