Credit professionals walk a fine line when determining how much credit to set for a specific customer. Extend too high of a credit limit and a distressed customer could buy more product than it can pay back. But if the credit limits you set are too conservative, your company could miss out on potential sales.
According to a recent eNews poll, 71% of credit professionals are extending more credit than usual. Most respondents (93%) are extending that additional credit to existing customers, and 40% are extending more credit to new customers (some credit professionals are doing both).
Supply disruptions are partly why customers have been requesting more credit so they can stock up on product, but inflation may be an even bigger reason for the sudden increase in limits, said Barry Rose, CBF, CCRA, credit manager with Diamond Plastics Corporation (Grand Island, NE).
“Our experience has been that over the last few years, the PVC pipe market started having a lot of price increases for our inputs,” Rose said. “The block price today is easily three times what it was a few years back. So, what that does is, it blows everyone’s credit limit out of the water. Even if [customers] are buying the same amount of pipe, we are talking about three times the dollar so we have had to start looking at everyone’s credit limit and determining what would be realistic in this particular economy.”
But inflation alone is not enough for a credit professional to blindly raise credit limits. “Since the consequences of a late payment or default can damage the lender’s own balance sheet, it takes more than a simple gut-check to arrive at this number,” reads an article from Dun & Bradstreet.
The financial health of a customer should still be the leading factor when adjusting credit exposure, Rose said. “Credit limits are based on the qualifications of the customer, not on how much their product costs,” he explained. “So, if the product drops in price over a period of time, I don’t know that you would need to immediately drop limits if they were a qualified customer to begin with.”
Getting a hold of additional information to feel more comfortable with extending higher limits can be difficult, said Juanita Reyes, credit manager with Eastern Quality Foods (Ponte Vedra Beach, FL). “We always need more information to support giving out more credit to make sure they have the wherewithal to handle additional credit because with more credit comes more risk.”
If a customer requests more credit, you should request more thorough information before making a decision, Rose explained. “Any credit limit over a quarter of a million dollars requires financial statements. So, I am requesting financial statements a lot more than I have in the past. Sometimes I am successful and in some cases I’m not. It puts a bit more of a burden on the credit department to get more information to back their decisions for limit increases.”
Even though extending more credit often comes with more risk, both Rose and Reyes have experienced faster payments from customers regardless of the increase in limits. “Our business and many of our customers’ businesses have been more profitable lately and delinquency has gone down,” Rose said. “Even with prices going up three-fold, customers are paying faster—maybe because they are worried about getting product with the current supply chain issues.”
This story originally was in the May 5 eNews. It is used with permission.