REAL IMPACT OF A BAD DEBT
It is crucial to manage cash flow and debt collection for any business to be viable. This is especially so during economic crisis. Studies have shown that bad debts exact a heavy price on the bottomline profitability of a business. The table below shows an example of the impact of a S$5,000.00 bad debt.
Cost of a Bad Debt:-
|
Indirect costs
|
Bad debt
|
S$5,000
|
|
|
Costs in lost sales based on 5% net profit
|
S$100,000
|
|
|
No bad debt
|
S$5,000 bad debt
|
|
Sales
|
S$500,000
|
S$500,000
|
|
Bad debt expense
|
S$0
|
S$5,000
|
|
Sales effect
|
S$0
|
(S$100,000)
|
|
Adjusted sales
|
S$500,000
|
S$400,000
|
|
Gross margin (25%)
|
S$125,000
|
S$100,000
|
|
Profit & Loss (20%)
|
(S$100,000)
|
(S$100,000)
|
|
Net Profit
|
S$25,000
|
S$0
|
|
Profit lost on bad debt of S$5,000
|
|
S$25,000
|
Based on the above example, for a net profit margin of 5%, you would need to generate S$100,000.00 of sales. However, the impact of a S$5,000.00 bad debt on your net bottomline profit and loss is a loss of S$25,000.00 net profit!
Sound Credit Management
Sound credit management implies good sales supported by effective revenue and debt recovery processes, giving rise to profitable business.
The primary period for standard debt collection is 0 to 60 days. The longer the debt is outstanding the higher will be the chances of it becoming a bad debt.
When a debt is allowed to stand too long, you have unwittingly given your customer a longer credit term than you know would be healthy for your business.
More specifically, according to our experience, when a debt is outstanding for too long, various other creditors would have already started some legal collection process against the same debtor company. This puts you way back in queue and the debtor company is much less in a position to pay you anything than if you had started a claim earlier.
Using Legal Services For Debt Recovery
The legal process for debt recovery usually starts with a legal demand letter being sent to the debtor company by lawyers. It usually states a seven-day deadline for payment to be made.
Most legal debt recovery processes do not reach the stage of a trial in Court. Most cases can be resolved at a fairly early stage, provided the debt is not outstanding for too long. Once the debtor company responds, lawyers are able to assist to secure an agreed written plan for instalment payment from the debtor company which contains a default clause. Lawyers would also require all instalment cheques to be handed to you. This will save you the time and trouble in chasing for each instalment when it falls due.
The legal costs for successfully securing the payment plan are not high in comparison to the amount which may be recovered, and engaging legal services for the debt recovery could be worth the while.
The chances for a good recovery of debt depend on whether you decide to seek legal assistance at an earlier stage rather than a later stage.
Do remember always the real impact of a bad debt, on the bottomline profitability of your business, especially in this economic climate.