How to manage business credit and debt in an organization

Posted on July 15, 2010 by IC N in Finance
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business credit

How to manage business credit and debt in an organization

business creditAcquiring business credit to start, sustain or expand a company’s operations involves the risk of getting into another spiraling debt trap. Some companies rely more on credit transactions as a way to retain customers or it’s the market share in the industry. There are mainly two sources of debt that a firm can incur. First are debts that are as a result of non-payment of dues or obligations. Sometimes businesses may opt to acquire goods or services on credit or borrow money to run its operations. If these goods are not settled promptly, they can lead to business debts. Second, bad debts that emanate due to pending settlement of accounts by customers or debtors. This can have an adverse effect on the liquidity of the business.

Owners have been unable to settle debts and obligations on time. In many cases, debt loads prevent some business owners from obtaining more business credit and loans to keep their firms financially solvent. In turn, many businesses, especially small firms, go out of business as these organizations regain a financial standing and are forced to go into bankruptcy. However, bankruptcy does not always exonerate entrepreneurs and owners from bad debt repayment.

Business debts have various adverse effects on the firm, such as reducing value of the firm, undermining stockholder’s confidence on its operations, making the owner unable to handle costs, and reducing product quality.

When a company is financed through business credit, the firm is required to settle its obligations at an agreed-upon time frame. If the grace period for loan repayment approaches or passes, the cost of borrowing funds to cover these additional payment costs, either through interests or special funding, grows exponentially by the day. This is the opportunity cost for taking business credit, which in turn leads to the foregoing of certain opportunities to expand the business and product line. The company also has objectives, which it ought to attain within a certain time frame. Failure to achieve these ends can lead to business failure or more debt loads as the cost of capital and labor are accrued. Meeting sales goals is essential to ensure proper profit levels are sustained, but as a business owner, you know that this is not always possible. When profits are below expectations, the cost to make up the difference of higher costs and lower profit lines requires either business credit and the debt trap or becoming insolvent.

Debt can also be used as a measure to balance the liquidity of the firm to ensure that the firm is stable. Although, if too much debt is employed, can lead to illiquidity of the firm and hinder its operations. Accumulation of debts can lead to bankruptcy and eventually liquidation of the company since it’s not able to honor its obligations. Poor debt management can lead to depreciation of the company’s value in the long term. Since the debt holders have an undertaken a risk in the business by financing it in case the firm is unable to honor its debts they risk losing their funds. Thus debt holders are also involved in making decisions pertaining the stability of the firm such the limit of debt accumulation and also the required levels of liquidity.

Business debt management involves managing the company’s debts to sustain the long and short-term objectives of the firm. This process involves engaging qualified professionals to provide advice to the firm and enable it to handle debts effectively. In managing a debt driven company with business credit, the shareholders and debt holders can apply certain strategies; first, debt negotiation, the business enters into an agreement with its suppliers for debts on the debt limit, creditor’s turnover time and the charges involved in credit sales. Second, the firm should commit to debt elimination. This is aimed to maintain the various company’s debt, for instance it can decide to eliminate 100 percent credit card debt within a certain period.

Third, the firm can unveil a consolidation plan. This will assist in consolidating all the firm’s debts into one single debt and instead of the firm making many monthly installments; it only makes one payment to a single debt. Debt consolidation loans are charged a lower interest rate on a straight-line basis as compared to the cumulative interest charged on debts or loans. Consolidation plan can be achieved through debt settlement, credit cards and business equity. A fourth consideration is the case where the firm is unable to collect funds from its debtors it can employ debt collection agencies to act on behalf of the company and collect the accrued debts. Finally, if all the above fails the last alternative is bankruptcy or liquidation. The firm can be declared bankrupt by a court of law, either through a direction of the creditors, owners or the company on its own capacity.

Remember, know your business and keep your sales goals low. By planning ahead, the debt trap can be avoided and business credit, if obtained, can be repaid in a timely and less costly manner.