Not every B2B company chooses to offer commercial credit, but if done correctly, there is substantial benefit. Commercial credit can increase a company’s customer base, boost cash flow, and improve customer relationships. But extending credit comes with inherent risks, so it is crucial to establish clear credit management guidelines. A formal credit policy is the foundation of successful credit management.
What is a business credit policy, and why is it essential?
A credit policy is a set of rules and procedures that defines how a lender extends credit to clients. Its purpose is to mitigate the risks involved in issuing credit — particularly to clients who can’t meet payment obligations — and keep credit-related decisions fair and consistent. A complete policy includes:
- Credit limits
- Terms and conditions for repayment
- Client evaluation criteria
- Procedures for overdue payments
The process of developing a credit policy
Prior to policy development, analyze your credit portfolio to determine just how much credit your company can afford to extend. Next, determine what information you, as a lender, will need to collect from clients. Make sure to capture all the necessary data to make an informed decision. If possible, assemble a team of financially literate employees to draft the policy. Explain each team member’s responsibilities clearly to prevent confusion and conflict. Once you’re ready to begin, there are several factors to consider. The Credit Research Foundation suggests six questions for developing a credit policy:
- What is your mission? Broadly, what is the purpose of the policy? What are you trying to accomplish?
- What are your goals? What are the specific, quantifiable objectives you hope to use the system to accomplish?
- Who has specific credit responsibilities? Who is responsible for credit assessments?
- How is credit evaluated? What criteria are used to determine creditworthiness?
- How are collections handled? Who handles collections? How often? Are they handled in-house or outsourced to a collection agency?
- What are your terms of sale? Are your terms fair, consistent, and lawful?
An effective credit policy should be clear yet flexible enough to be improved upon over time.
Best practices for implementing your credit policy
Making sure everyone understands your credit policies and why they’re being implemented is critical to execution. Leave no room for misinterpretation. Establish monthly — or even weekly — reports to monitor the new policy for consistency, clarity, and effectiveness. If there are variations in how your policy is applied, outline what they are and how they are negotiated. Regular reevaluation is crucial. Plan to evaluate annually — or more frequently as needed.
Offering credit is a useful strategy that, if properly implemented, can increase cash flow and allow a business to build and maintain a larger customer base. To achieve this, it’s vital to develop an effective credit policy. Online guides are an excellent start, but it’s essential to analyze what works best for a given business and adapt accordingly. Expert financial advice is an invaluable tool for commercial credit management.