The importance of knowing your clients’ creditworthiness

Creditworthiness might not be top of mind while you’re negotiating a deal with a potential client. However, it’s something you shouldn’t ignore.

It does little good to win business if the client doesn’t pay or goes bankrupt mid-contract. That’s why, before you sign a contract, it’s important to evaluate your potential client’s credit.

As Michael Neidle, president and CEO of Optimal Management, put it in Staffing Stream magazine, too many staffing firms are so eager to sign new business that they’re not thinking about much else, and that includes the level of credit risk prospective clients pose.

“Staffing firms must pay their workers on a timely basis, and if their receivables are stretching out or, worse, need to write off a bad debt on a large account, they will either eat into their line of credit or may even put the company in financial jeopardy,” wrote Neidle. “And when a normally ‘good’ client misses payments, the collection department may even be asked not to become too aggressive on past due payments to avoid alienating them. But as days sales outstanding pile up, so does the potential seriousness of the problem. Running a business should be a balance of risk and reward; looking at just the reward without assessing creditworthiness is risky business.”

Fortunately, there are steps you can take to get a sense of a potential client’s creditworthiness. For instance, ask the potential client to share its credit history or provide references. If it is unwilling to do so or asks to renegotiate the terms and penalties, it could be a sign that it’s had credit issues.

You can also research ahead of a planned meeting with a potential client. A simple web search could uncover payment issues if, say, you find vendor lawsuits — part of the public record — for nonpayment.

Or, work with a payroll factoring company. Factoring companies not only manage the administration of a firm’s financials, they can also monitor and report on the credit ratings of existing and prospective clients, providing Dun & Bradstreet credit reports and around-the-clock credit monitoring to ensure that clients are (and remain) creditworthy and are unlikely to default on a payment.

A factoring company will also help you keep tabs on existing customers by immediately notifying you when the creditworthiness of a client starts to decline. This could save you thousands of dollars in potential losses, giving you the ability to reach out to the affected client and better understand the problem, or take steps to insulate yourself from a client that might no longer be able to make good on its debts.

Some factoring companies have very strict parameters on their definition of credit limits. Others, however, are more permissive, giving you more freedom to bill the client. Which option is the best is a matter of preference, but making that decision requires having the conversation to determine the best fit.

There are also factoring companies that offer services to help you retain business with clients that might be experiencing credit issues. For example, cash on delivery, through which you hand over payroll checks only when payment is made for that payroll, is one option. Another is a margin adjustment for clients that are considered to be a credit risk.

Not all factoring companies are the same, and you should discuss and review the service terms and features before choosing a partner. That’s important because some companies might charge for expenses — wire fees, the Dun & Bradstreet reports, UCC filings, which are filed by creditors to give notice that it has an interest in the personal property of a debtor, postage and more.

Full-service factoring companies should be able to provide payroll funding, invoicing, payroll taxes and credit monitoring, services that enable firms like yours to reduce their risks and focus on growing their businesses.