How to Check Your Client’s Business Credit (Commercial Credit)

Most companies that sell products or services to commercial customers have to offer payment terms – the option to pay invoices in net 30 to net 60 days. Many customers will do business with you only if you are willing to offer these terms.

The problem is that not every company is creditworthy and deserving of terms. Some companies may pay your invoices late – 30, 60, or even 90 days past due. Others may take your product/service and never pay for it at all. This situation can create serious cash flow problems. In this article, we cover:

  1. Do your clients deserve net 30 to 90 day terms?
  2. How do business credit reports work?
  3. How to interpret and use reports
  4. What to do if you can’t find a credit report
  5. Challenges of offering net payment terms
  6. Use factoring to finance slow-paying invoices
  7. Conclusion

1. Do your clients deserve net 30 to net 90 day terms?

Clients always ask for payment terms. It’s to their advantage to get terms because it improves their cash flow. From their perspective, it’s a great deal. They get your products/services without having to pay for them immediately.

As a business owner, you must remember that a sale is not really an actual sale until the client pays. And if the client does not pay, the sale turns into bad debt. Consequently, offer terms carefully.

You should offer credit terms only if you have a high level of confidence that the client is creditworthy. In our experience, the easiest way to determine a company’s creditworthiness is to use a commercial credit report.

2. How do commercial credit reports work?

Business credit reports can give you an idea of the prospective client’s risk profile. This information helps you determine what type of payment terms (if any) the client should get. You can get these reports from Dun and Bradstreet, Experian Commercial, Cortera, or Ansonia.

Let’s look at the information that is included in most credit reports.

a)  Suggested credit line

Most commercial credit reports use an algorithm to suggest a credit line amount. While these suggestions are important, you should not rely on them without looking at all the report’s details. The details provide context, which allows you to gauge the accuracy of the credit suggestion.

b) Maximum trade credit

Some reports also include a maximum trade line. This is usually the highest amount of credit that a vendor is currently giving this business. Use this value with care. It does not mean that offering this level of credit is safe. It just means that another company has decided to offer it to them.

c) Number of reported trade lines

This figure shows the number of companies that are reporting information about your client. Keep in mind that reporting is not mandatory, so that data can be spotty. In general, large companies that work with many vendors will have more reported trade lines than smaller companies.

A high number of reported trade lines indicates that the report is using data from many companies. Consequently, the credit amount recommendation, track record, and trend information is more reliable.

d) Payments track record

The payment track record is one of the most important items of a commercial credit report. This measure shows your client’s track record paying other vendors. This track record is often a good proxy indicator of how reliably your client will pay you.

Keep in mind that the accuracy of this measure increases with the number of reported trade lines. For example, a “great” payment track record based on a single reported tradeline is not as reliable as an “average” payment track record based on many reported lines.

e) Payments trend

The payment trend section gives you information about the changes in the payment track record over time. A stable payment trend means that the track record has not changed for some time. A declining (or worsening) payment trend means that the client takes longer to pay than before. An improving payment trend means that the client is paying faster than in the past.

f) Liens and judgments

This section shows if the company has any liens or judgments filed against them. Liens are not necessarily bad. Most secured financing transactions involve filing a lien. However, liens due to delinquent taxes or other issues are usually a problem.

Judgments may or may not be a problem, depending on the circumstances. Look at the trend and the size. It’s not uncommon for large companies to have some small judgments against them. However, many judgments or judgments of substantial value could indicate a problem.

3. How to interpret and use credit reports

We suggest that you review all the details in the report rather than relying on just the credit recommendation. Look at each section of the report in relation to other sections. This level of scrutiny gives you a better idea of your client’s risk profile and provides context. For example, a report with a large credit recommendation based on a single reported tradeline looks good “on paper” but is not necessarily reliable.

Commercial credit reports are neither perfect nor all-inclusive. If you are evaluating a client for a large transaction, consider getting multiple reports from different providers. Make a decision based on the information from all the reports.

4. What to do if you can’t get a report on a client?

You may encounter situations in which you are unable to find a credit report for a prospective client. The lack of a credit report is not necessarily an indicator that the client is a bad payer. It just shows that the credit bureaus don’t have enough data on them to make a credit decision. You can still get an idea of the risk profile by asking the client to provide 3 to 5 active trade references. A trade reference is a vendor that is currently invoicing them. Call the trade references and ask them for payment information about your potential client. Questions include:

  1. How long have you been working with them?
  2. How much do you invoice them?
  3. What terms do you give them?
  4. How long do they take to pay?

This method is not perfect and has some risks. As you can imagine, most clients want to put their best foot forward. Consequently, they may share only their best trade references.

5. The challenges of offering net payment terms

Offering payment terms to clients exposes your company to two important risks. The most common risk is slow payments from clients who pay beyond their terms. However, the biggest risk comes from clients who don’t pay and default on the invoice. Using credit reports does not eliminate these risks, but it does minimize them significantly.

In general, offering payment terms can lead to cash flow problems. This scenario comes from the fact you still need to wait 30 to 60 days for payment. Companies have to rely on their cash reserves to cover expenses in the meantime. This payment delay can affect their ability to grow and create cash flow problems. You can often solve these cash flow problems by using invoice financing when you offer terms to clients.

6. Use factoring to finance slow-paying invoices

If your clients pay in 30 to 60 days and you need funds sooner, consider using invoice factoring financing. This solution provides you an advance against your invoices from creditworthy commercial clients.

Invoice factoring transactions are usually financed in two installments. The first installment comes when you submit the invoice to the factoring company. The factor reviews the information and deposits the funds into your bank account. The factor deposits the second installment, less their fee, once your client pays their invoice in full. This payment settles the transaction.

Most factoring companies don’t provide loans. Instead, they buy your accounts receivable. Consequently, qualifying for factoring is easier than qualifying for a loan. To qualify for factoring, your company must:

  • Have clients with good credit
  • Be well managed
  • Be free of encumbrances

To learn more, read “What is Factoring?

7. Conclusion

Companies should evaluate the commercial credit of their clients before offering payment terms. The most effective way to do this is by using a commercial credit report. These reports provide critical information that helps determine if the client should get terms.

If you cannot get a credit report on your client, review their existing trade references. This can give you an idea of your client’s potential creditworthiness. However, this method can be biased.

Consider using invoice factoring if you have cash flow problems due to slow-paying clients. Factoring can provide the cash flow you need to operate the business and take on new opportunities.

Need factoring financing?

Are you looking for a factoring quote? We can provide high advances at low rates. For information, call (877) 300 3258.

Disclaimer: This article is intended for informational purposes only and not as advice. Please seek advice from professionals if you require it.