CHAPTER XXI

COLLECTION METHODS AND POLICIES

Purpose and Functions of the Collection Department.-All credit transactions involve a transfer of commodities and services for a promised equivalent payable at a future time. To secure this equivalent, practically all business organizations that sell on time are compelled to maintain a collection department or otherwise to perform the functions of such a department. This is so because not all debtors pay promptly the bills they have contracted. Even many good customers need to be reminded of their delinquency in taking care of their obligations. It is but human nature to postpone payment and put off the inevitable day of reckoning as long as possible. Some customers are forgetful; some are unable to meet their obligations at maturity, because of sickness, mismanagement, or other unforeseen contingencies; others never had any intention of paying their debts. To secure payment of accounts that are past due because of various reasons is the chief purpose of the collection department.

The efficiency of a collection department, however, is not to be measured by the percentage of collections alone. It is relatively easy to secure payment of approximately 100 per cent of all overdue accounts merely by sending to all delinquent debtors a drastic letter threatening legal action. Almost all debtors would no doubt pay their obligations immediately, but almost all of these customers would also discontinue their patronage. Hence, the importance of securing a maximum of collections with a resulting minimum loss of trade. The second object is not only no less important than the first but may easily become of greater significance because the profit derivable from future transactions with a delinquent debtor may greatly exceed the amount due on a particular bill. Nevertheless, the first object is extremely vital, for failure to collect the full amount due will cause the customer to take advantage of the credit grantor's leniency and make future dealings troublesome.

Thus the problem of the collection department or collection

man is to collect the overdue accounts without at the same time offending the customer, a task far from being easy of achievement. If the customer is pushed too hard, there is danger of repelling and losing trade. On the other hand, there is the possibility of treating him so leniently that he becomes careless and in this manner makes his accounts cost more to collect than they are actually worth. Because of this dilemma the average merchant is led to believe that collections are a hopeless task, or else he feels that it is a problem extremely difficult to solve. To be sure, it is no easy task to determine upon the maintenance of so nice a balance as to result in the collection of the largest possible number of overdue accounts as quickly as feasible and at the same time lose as few customers as possible.

Importance of Prompt Collections. It is impossible to overemphasize the value of constantly but properly driving after money due and not paid in time. Profits are dependent to no small extent upon the number of times a merchant can turn over his invested capital, and prompt or "close" collections are invariably accompanied by a rapid capital turnover. The rapidity with which a merchant may turn over his working capital, for example, depends partly upon the rapidity with which he can market his products and partly upon the rapidity with which he converts his accounts receivable into cash. Furthermore, prompt collections increase the working capital of credit grantors and save them large sums in bank interest, whereas slow collections cause a loss in the use of a concern's capital which is tied up in past-due "outstandings." Prompt collections are also vital to concerns because they are enabled thereby to take advantage of discounts offered for cash payments on purchases. Concerns with a limited line of credit at the bank frequently find it impossible to borrow further sums with which to discount their bills. It is, consequently, essential from their standpoint to collect overdue accounts as promptly as possible in order to effect savings incident to discounting bills for purchases. It should also be remembered that insufficient working capital is responsible for practically one-third of all business failures. This lack of capital can be traced in many instances either to indiscriminate credit granting or to inefficiency of the collection department, or both. Slow collections are, therefore, apt to cause undue embarrassment to credit grantors through insufficiency of working capital.

Two other significant results are obtained by a proper policy of enforcing prompt payments. In the first place, a debtor whose account is already overdue is not likely to place additional orders with such house. Instead, he will be encouraged to buy from houses where his credit standing is unimpaired. The effect of such action is to diminish the volume of sales of those houses which allow their debtors to run up large overdue accounts and to increase the sales volume of concerns more drastic in their collection methods. Finally, houses are more highly respected by debtors when their accounts are closely watched and promptly collected. Customers soon learn which concern is lenient and which concern will insist that its bills be met promptly, with the result that they pay the latter and let the former wait for its money. Hence, the importance of training customers to pay their obligations promptly. When this aim is accomplished, the collection department has less actual collection work to perform than the inefficient department whose lack of system is responsible to no small degree for the negligence of its customers in paying their bills according to terms of sale.

Classification of Debtors. In order to handle customers rapidly and intelligently, they are generally divided into three classes, consisting of good risks, fair risks, and poor risks.

The good risk is a customer who is highly rated in regard to his financial ability to pay and is so eager to keep his credit intact that he will make satisfactory arrangements the moment he finds himself unable to meet his bills. He is a good-pay customer, has a high credit limit, and is entirely reliable. Such a customer must be treated with the utmost courtesy in case of delinquency. A little pressure and a proper appeal may be all that is necessary in order to bring about payment of the bill. The delinquency is in all probability due to negligence and not so much to lack of financial resources. Customers in this class are highly sensitive; the treatment must be mild, lenient, and courteous, lest they become offended and withdraw their patronage. No drastic measures whatever need be resorted to and the time between the various letters in the collection series is the longest allowed for the various classes of delinquents.

The fair risk is a customer who is probably good but slow. He has a medium rating in regard to his ability to pay and is entirely willing to meet his bills, but through carelessness or through the happening of unforeseen contingencies beyond his

control, he postpones payment of his obligations. Such customers have a medium credit limit and, in spite of their occasional delinquency, do not belong to the dishonest category of debtors. They constitute the largest percentage of a retail store's accounts and form the large body of small merchants over whom the credit manager must keep close watch. Many of these delinquents may be finally educated into the first class of debtors. Because of their honesty and good intentions, these cases require careful and special consideration, necessitating a study of conditions responsible for the delinquency before pushing the claim and thereby adding to the confusion and embarrassment of the debtor and further delaying payment. The collection system must allow a longer period of time to elapse between the various letters of the collection series and other methods forming a part of the anticipated plan.

The poor risk is a customer who apparently has just enough ability to pay and just enough reputation of meeting his obligations with fair promptness to deserve the privilege of an open account involving a small credit limit. In this class are included those customers who can pay but do not intend to do so until forced, as well as customers without conscience or financial responsibility, commonly known as professional "deadbeats." So long as these risks are kept within the credit limit placed on their accounts, they may pay with fair promptness. No credit manager can be certain that he has not extended to some of them more than is warranted by actual conditions, partly because of failure to investigate a customer's reliability thoroughly and partly because even the most careful investigation sometimes fails to disclose the weakness of an applicant for credit. Among these delinquents are persons who are absolutely indifferent to unfavorable credit opinions and upon whom "duns" all the way from pleading persuasiveness to threats to take drastic action have no effect. In dealing with these accounts, the collection system must operate rapidly. Little time should elapse between the first notification and the letter threatening suit. No sympathy should be shown to persons who have earned a reputation as chronic bad-pay customers, because such risks are habituated to strict treatment and will take no offense at the promptness with which they are followed up. Drastic treatment should be reserved, however, until the credit manager has overwhelming proof of the unworthiness of the delinquent. Otherwise, persons