31 May, 2010 

By Christine Christian CEO, Dun & Bradstreet

The Global Financial Crisis (GFC) provided a wake-up call for many business executives. It was a sharp reminder that risk is always prevalent and the cost of downgrading the role of risk assessment is high. In response many firms increased their focus on risk management. For some this involved increasing bad debt provisions and cutting back on lending. Others continued to lend but increased their focus on risk assessment ensuring that while they lent it was to those firms that represented the safest risk.      Two trends demonstrate the success of this renewed focus at the time. Firstly, business payment terms improved as firms increased their focus on cash flow and receivables management. Dun & Bradstreet's business-to-business trade payments data shows average payments dropped from just over 57 days at the beginning of 2009 to just under 52 days towards the end of the year.

Secondly, Australia avoided the wave of liquidations and bankruptcies experienced elsewhere around the world as risky customers were put on watch and managed through their difficulties rather than being left to fend for themselves. At Dun & Bradstreet we noticed a steep rise in the number of firms making use of our monitoring and alerts service to ensure they were immediately aware of any changes in the risk profile of their customers' and could respond accordingly.

While the strength of the Australian economy was also a factor in domestic firms avoiding the worst of the crisis, the heightened focus on cash flow and risk management must not be overlooked.

Unfortunately, this focus during the crisis stands in stark contrast to today. As the GFC recedes (Greek jitters aside) payment and risk practices are showing signs of deteriorating.

Our latest trade payments analysis shows a sharp spike in average payment terms compared to the same time last year right across the economy. At the same time the number and average value of commercial debts referred for collection are on the rise. These two trends point to a relaxation in collection standards and cash flow management.

Of greater concern is that this problem and the impact on business failures are likely to rise. Since the beginning of 2010 Dun & Bradstreet has downgraded nearly 80,000 firms. This is around 15,000 more than the same time last year during the height of the GFC. This is a critical point. The risk outlook has deteriorated for more firms during a period of economic strength than during the world's worst financial crisis in 70 years.

When looking at consumer credit the trends are the same. The number of defaults is on the rise and if previous years are any guide, and we know they are, then this problem will only get worse in May and June.

Executives must take note. While the GFC may have passed us by risk remains prevalent and the number of firms exposed is many times greater than those that have been downgraded. The lessons of the GFC must not be forgotten.

To limit or avoid exposure to this increasing risk firms must renew their focus on risk and cash flow management. This means learning from the lessons of the GFC, when so many firms were caught off guard, and ensuring practices are in place that can deal with the risk of today and predict the risk of tomorrow.

The critical steps in re-establishing these practices are known to us all. First, cash flow must be given as high a priority as revenue. A sale is not a sale until your invoice is paid. 

Dun & Bradstreet's recent research into cash flow management revealed that 46 percent of firms reporting a profit in the last financial year operated with negative cash flow. Those firms could sell but they couldn't collect. Given that around 90 percent of business failures are related to cash flow and not sales this is a worrying trend and one that nearly every firm would be exposed to at some level through their customer or supply chain.

Elevating the importance of cash flow means a ruthless focus on collections. Overdue bills must be actioned as soon as possible and late payers put on notice that there are consequences for delinquent payment. Those consequences should include being prepared to stop shipment of goods or provision of services and the reporting of poor payment to a credit bureau. 

Our 2009 Business Payment Priorities study identified that around 50 percent of firms would be more likely to pay on time or early if they were aware their payment habits were being reported to a bureau. This research makes it clear that consequences matter.

Second, customers must be assessed for both capacity and propensity to pay. Too many times we hear stories of businesses losing money because customers they considered safe, for no reason other than their size, failed or refused to make payment. Confirming that a firm has the capacity to pay is just one part of credit assessment. Equally important is confirming that they have a history of paying; and on time. 

Third, credit managers must work closely with sales and marketing to help them understand what a good customer looks like. This is not just about avoiding future bad debt. This information, supported by the right marketing data and tools, can help sales and marketing identify and pursue firms that share similar characteristics to your existing good customers, increasing both the chance of a sale and overall profitability. Understanding your good customers can also allow sales and marketing to focus on up-selling and cross-selling to your existing good customers.

The role of credit, risk and collection managers gain increased visibility during the GFC as CEO's and CFO's realised that cash flow was the lifeblood of their business. This provided a unique opportunity to strengthen credit and cash flow management practices and entrench these functions at the core of the business. The result was a rate of business survival during the GFC unrivalled anywhere in the developed world.

This success must not be allowed to wilt. With payment terms slowing, debt referrals rising and 80,000 firms receiving a downgrade now is not the time for firms to forget the lessons of the GFC. An unwavering focus on risk assessment and cash flow management will not only mitigate against potential bad debt but will also lay the foundation for future growth as the Australian economy powers ahead.