If you’re a company who extends trade credit, or is at least considering doing so, you know it’s no simple business operation. You are essentially allowing your business to act as a bank. Surprisingly, the facts show that this doesn’t make small businesses shy away from it. Choosing to extend credit is a big decision, however, a smart one. Here’s everything you need to know about trade credit, and why you should be extending it if you aren’t!
60% of companies who use credit, use trade credit.
“Small businesses using trade credit are larger, more liquid, of worse credit quality, and are less likely to be in the services industry”.
The Top 4 Reasons to Be Extending Trade Credit
1. Sales – Trade credit is a powerful sales tool. If a customer has more time to pay, they are naturally able to purchase MORE from you. Trade credit enables your customers to have a bigger buying power, allowing you to make larger sales.
2. Customers – If customers know you trust them to pay, it will automatically make them more loyal. Giving someone the opportunity to be more flexible with their cash flow is immeasurable, not to mention a great way to say thanks to customers for their business.
3. Brand – If your company extends credit, it says two thing: “I am financially stable and I believe in my product.” If you are willing to sell someone something and then wait on the cash, it shows that you run a financially fit business and that you know your customers will love your products. It’s a great way to gain trust and build your business’ reputation.
4. Competition – Not all businesses are extending credit. Therefore, those that are gain an immediate advantage. If a customer has the option of doing business with someone who extends payment terms vs. those who request payment upfront, they will always choose the option of flexibility (given the products and services are comparable).
Knowing if Trade Credit is Right For You
Trade credit isn’t right for everyone. Your business has to be in a healthy financial position to consider it (unless it’s industry standard). Ask yourself the following questions:
- What is the credit exposure my business can afford?
- What is the infrastructure of my company like? Do I have the administrative abilities to support trade credit efforts? (It is something you can handle yourself if you’re a one man show, but it’s all relative to the amount of business you’re conducting.)
- On average, how many transactions do I have and what is their value? (If your company is dependent on many small transactions, extending credit might be more challenging from an administrative point of view. However, it is less risky because your risk is more diversified over a larger customer base.)
If your business can afford a certain amount of credit exposure and you have the infrastructure in place to effectively extend trade credit, then you certainly should be doing so. If you can’t afford much exposure or you just don’t have the resources to manage the process, then you should consider other options, such as cash up-front for everyone or only extending credit to the most trustworthy customers.