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Is My Customer Credit Worthy?

Is My Customer Credit Worthy?
Pat Dickson - Thu Nov 15, 2012 @ 05:43AM
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I've recently written about personal guarantys from both sides of the fence.

On the one hand, if you are an individual working at a company (or even an owner for that matter), you don't want to sign a personal guaranty on your company's behalf, else you could end up personally liable for its debts. In some cases, as an owner or stakeholder you don't have any other option. If you don't personally sign, you can't get payment terms. 

On the other hand, if you are a service provider or sell materials or products, you don't want to give payment terms to any commercial customer that is a credit risk. You want a personal guaranty so you don't end up with nothing in the event the customer goes belly up. You aren't in the business of giving away your goods and services. You are a for profit business, not a charity. If the business you are serving might not pay you, you want the promise from a person who will pay you.

But enough about personal guarantees for now. Personal guarantys are only a part of the picture, as they are really nothing more than a safety net in the event your commercial customer can't pay you when payment is due. There is a bigger question, which is really the first question you should ask before giving anyone credit or payment terms:

The First Question is: Is My Customer Credit Worthy?

Ultimately, your primary goal is to avoid financial risk. You want cash up front if you are dealing with a potential deadbeat. If you are going to give anyone payment terms or credit of any kind, you want to make sure they are going to be able to pay you when payment is due.

There are two ways to secure a promise to pay, in the event you offer payment terms:

First, you have your customer fill out and sign a Credit Application. This document asks your customer a number of questions about his credit worthiness, and at the end of it he signs on the dotted line. By doing so, he is agreeing that his business will pay you should you agree to give him payment terms or credit.

Second, as a matter of course, or if you are not satisfied with what is disclosed in the Credit Application, you will want to obtain a personal guarantee. You want an individual on the hook in the event the commercial customer at hand files bankruptcy or otherwise becomes a deadbeat.

But remember, Credit Applications and Personal Guarantys are just documents. They don't guarantee you will be paid just because someone signs on the dotted line at the end. The most important thing to know is whether the company signing the Credit Application (via its officers, owners, or employees), or the individual signing the personal guaranty on behalf of the company is credit worthy. 

In other words, signatures on paper are nice and look formal and all, but are you going to be paid when payment is due? Does the company signing the Credit Application, or the individual signing the personal guarantee, have any money? If they aren't cash rich, do they have the credit needed to pay you? Do they have substantial unencumbered assets? Do they have a history of non payment?

The good news is that I've already written an article about doing credit evaluations! I did so in the context of a construction subcontractor evaluating the credit worthiness of a construction general contractor. Read the article and you'll find that most of what I recommend will work for evaluating the credit worthiness of your customers.

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