With late payment a major cause of business failure, improving credit management systems is essential.

Clive Lewis of the Institute of Chartered Accountants for England & Wales believes that cash is more important than profit for a small business. He illustrates this by saying a loss-making business with a good credit management system can survive, while a profit-making business with a bad one can go under.

His advice to SMEs is to monitor their cash situation – always know where you should be and know when you are not where you should be. This particularly applies to very small businesses of one or two people where they may rely heavily on one big customer for the bulk of their revenue. If this customer delays or refuses payment, the business could go under.

Lewis suggests that small companies need to do more work at the front end of the credit management process. This includes thoroughly checking credit references and agreeing terms of trade before taking on a customer.

It is important to maintain these terms as customers can gradually slip from them, for example, taking 40 days to pay instead of 30. Lewis warns that tolerating or ignoring this often leads to the scenario of the customer going bankrupt and leaving the supplier with an unpaid debt.

The BPPG has produced a 10-point list of early warning signs to help small businesses identify potential problems and act on them.

1. Hitting the overdraft limit – If your business regularly reaches or breaches the limit of your bank’s credit facilities, review your asset management policies in general and credit management in particular.

2. Extended aged-debtor lists – If your debtors are persistently paying invoices outside the agreed credit period, assess your collection methods and identify areas for improvement.

3. Good payers slowing up – If customers who usually pay promptly start to slow up their payments they may have recognised your collection system is slack.

4. Quality complaints – Customers may start to take advantage of an inefficient system by using spurious complaints and queries to extend the credit period available and improve their own cash flow at your expense.

5. Administrative excuses – Excuses such as ‘computer failure’ may also be a sign that the customer has recognised your credit system is lax and capable of exploitation.

6. Customer insolvencies – Credit insurance or a strong internal system of credit risk assessment can protect your company, particularly if it is too heavily reliant on the business of one particular customer, or has a range of customers who are vulnerable in cash flow terms.

7. Supplier stops – If your business is not paying its own bills there will inevitably be a point when you exceed your credit limit and supplies are halted.

8. Credit ratings and market rumours – Both will damage your prospect of attracting new business and will potentially further constrict cash flow.

9. Arrears of PAYE, NIC and VAT – Do not be tempted to seek credit from the state by not paying your tax. Government departments have the power to immediately seize assets, without prior warning.

10. Low staff morale – Staff are sensitive if your business shows signs of distress such as having difficulties with cash flow. You risk losing your best employees, making the situation worse.

For more information and advice on credit management and late payment policies visit the BPPG website at payontime.co.uk.

Small business group the Forum of Private Business also offers a Cash Flow Guide. Details of this are available at www.fpb.co.uk.