Why do 90% of small businesses fail?

When you're engaging in any kind of business, whether it's with a well-known brand like Sainsbury's, a family-run shop, or a close friend, it's important to get a clear picture of their financial health. This isn't only about how they're doing right now, but also about understanding their financial past, particularly that of the director or directors involved.

In the UK, 28% of businesses are impacted by late payments each year, resulting in nearly £11 billion in costs to the economy annually. Additionally, 78% of UK SMEs owed money have to wait at least one month past their agreed terms, highlighting the importance of effective credit checks.

Real-World Credit Check Case Study

Let's explain that a little further...

A supplier was considering offering a 30-day credit term to a manufacturing business.

After an initial credit check on the business, it appeared to be healthy and suitable for the proposed terms.

However, after a closer review of the directors, they quickly found that the business had only one director who previously managed three similar companies. That director resigned in the fourth year of operation at each of those companies, and a new director was appointed in their place. The business then entered administration owing substantial debts.

A coincidence? Maybe. Is it wise to offer these credit terms to this type of business? Not really. Whether this unusual pattern was deliberate or just a huge coincidence, it wasn't worth the risk.

Keep in mind that if you're not getting paid upfront before offering goods or services, you're essentially extending credit to your customers. It's a financial risk worth considering carefully.

Fifteen per cent of businesses now avoid doing business with specific customers based on their payment behaviour, showing how crucial credit checks have become.

In family-run small businesses, many outstanding payments are often based on mutual trust. Business owners usually have a long list of familiar names—they consider these people as 'mates' they can rely on to settle their bills. While business is business, it's important to remember that if someone intentionally refuses to pay for goods or services, they're not truly a friend. True friends would always pay what they owe, demonstrating respect and integrity.

It's important to remember that these business relationships usually begin with great intentions. However, if something goes wrong, it can affect your business quite significantly. Considering that late payments cause around 14,000 business closures annually in the UK, it's crucial to handle these situations firmly and proactively to protect your success.

Professional Boundaries Save Relationships

It's important to maintain a clear boundary between you and your friend when it comes to business and money. Where possible, ensure someone else is responsible for following up on payments, especially if you're uncomfortable handling it yourself.

When you take a professional approach to managing payments, you'll often find that payments arrive more quickly than you'd expect. This not only helps you get the money you're owed, but also protects the personal relationships that are so valuable in business.

Consider that 52% of SMEs forfeit late payments up to 10 times a year to avoid confrontation. Don't let personal relationships become one of those write-offs.

If you run your own business or work for yourself, the safest way to protect yourself financially is by securing as much of the funds upfront as possible. This not only ensures your costs are covered but also puts you in control of your financial situation.

Recent data reveals a strong link between payment terms and business success: businesses requesting immediate payment experienced 5% sales growth, whereas those with 90-day terms achieved only 2% growth. The message is clear: faster payments lead to stronger businesses.

The Real Cost of Extended Payment Terms

As a small business, getting paid promptly can make a significant difference. When we mention "costs," we're not only referring to the price of products; your time is also valuable. UK businesses spend a staggering 133 million hours each year chasing late payments, which averages about 86 hours per affected business annually.

Taking proactive measures like this can help prevent situations where non-payment puts your business directly at risk. Businesses can only endure a limited number of setbacks before experiencing financial difficulties that might be impossible to recover from.

Negotiating Better Terms

Sometimes, you might need to accept certain terms to secure a deal with a bigger company. In these situations, it’s important to negotiate actively for better terms. Also, be sure to carry out a thorough credit check to ensure the deal truly benefits you.

Every business, whether it's a one-person operation or a larger enterprise, has expenses. These may include employee costs, material charges, or service fees. It is essential to ensure that all these expenses are at least covered. Ideally, aim for full payment to maintain financial stability.

Staying professional in your business dealings is essential. It's also important not to make exceptions for friends or family, as this will help you remain firm and professional in your decision-making.

Every business keeps a mental list of companies or individuals it needs to pay, prioritised by importance, such as HMRC, utility providers, or key suppliers crucial to operations.

Companies at the top are there because failing to pay them on time can have serious repercussions. For tax authorities, it could mean legal action. For utilities, it might result in service disconnection. Without your key suppliers, your entire business could grind to a halt.

You need a credit management process to increase your chances of receiving payments promptly. This process is very important, and you should act accordingly, regardless of who you are dealing with. There should be no exceptions.

Your Four-Stage Credit Management Process

The most effective way to demonstrate this is through an example:

Stage 1 - Your invoice is due within 30 days. If you haven't received payment by the 31st day, you must take action. Contact the company responsible and request immediate payment.

Stage 2 - If you haven't received payment after seven days, contact the company to inform them that you will be taking recovery action.

Stage 3 - Seven days after Stage 2, you still haven't received your payment. Contact the company and inform them of your intention to pursue legal action.

Stage 4 - 14 days after Stage 3, you may wish to consider legal action.

Don't worry if your credit management process isn't exactly like this, but it should give you a good idea of what it could look like. The key thing is to set up a process and stick to it consistently.

Why Consistency Wins

What you'll notice is that people will pay at different stages of the process, but over time, you'll see a change. You've become a priority rather than being at the bottom of the creditor list. Paying you is no longer just an option; it's necessary to meet your credit terms.

45% of UK SMEs are facing more late payments than 12 months ago, so having a strong process gives you an edge over competitors who accept delayed payments as "inevitable."

The best way to show you is by using an example:

Stage 1 - Your invoice is due in 30 days. On the 31st day, you haven’t received payment. You must act on it. Contact the company that owes the money immediately and ask for immediate payment.

Stage 2 -If you haven’t received payment after seven days, contact the company to warn that you will be taking recovery action.

Stage 3 - 7 days after Stage 2, you still haven’t received payment. Contact the company and warn them that you intend to take legal action.

Stage 4 - 14 days after Stage 3, you may want to proceed with legal action.

Your credit management process doesn’t have to be precisely this, but it gives you an idea of what it could look like. The key is to ensure you have a process in place and stick to it.

You’ll find that people will pay at different stages of the process, but with time, you’ll notice there is a change. You have become a priority instead of sitting at the bottom of the creditor list. Paying you is no longer an option; it is necessary in line with your credit terms.

The Real Debt Guy is a qualified financial adviser and a UK debt expert. The information in this article is considered to be true and correct at the publication date.