Fine-tune your financial indicators to anticipate the risk of payment defaults

The Covid-19 crisis had a hugely disruptive impact on companies. Measures introduced around the world to stop the spread of the virus caused economic activity to slam to a halt. Business performances were hurt by stop-and-go cycles, which created a surge in the risk of payment defaults and a genuine danger of systemic risk.

A bad debt from a customer could have dramatic consequences for your company. As a consequence, you could find yourself in a situation of payment default with your suppliers, even if you have a well-stocked order book. Which financial indicators should you monitor to stave off this risk?

Protecting your cash is more vital than ever before. Of all the key indicators to follow, the critical one is unquestionably revenues. Often referred to as sales, this is the income received from normal business operations and other business activities.

The crisis has not affected all sectors in the same way: some, such as agrifood, have seen revenues remain stable, while others, including tourism, aerospace, food services and accommodation, have sustained heavy losses. Meanwhile, sectors such as IT and home improvements have benefited handsomely from lockdown effects and managed to grow their revenues.

No matter what sector you operate in, the crisis exit phase must be used as an opportunity for an in-depth consideration of the correct strategy to adopt. Even sectors that appear to be most unscathed so far must be ready to deal in the future with a profoundly different environment. For example, companies must monitor innovations by competitors and be ready for market reversals.

Tip: The crisis has changed the playing field. Not just for you, but also for your customers, suppliers and competitors. Thinking global means looking at your revenue trends within the context of a wider economic ecosystem. To get back on track, it is critical to update your key indicators to factor in competition and developments in business conditions. Accordingly, this is the perfect time to conduct a new market study.

Finance professionals are categorical that sound business liquidity management is key to ensuring that your company enjoys security, freedom and agility. Tracking liquidity means keeping a constant eye on the shifting financial flows connected with your activities.

The liquidity ratio is one of the most important indicators because it allows you at any time to assess your company’s short-term solvency. It calculates short-term obligations and cash flows, and determines your ability to pay current debt obligations without raising external capital.

The liquidity ratio is shaped by several indicators, including assets, inventory, debts, and trade accounts receivable. While changes in assets, inventory and debts can be predicted, this is less true for accounts receivable, i.e. the total amount of outstanding payments owed by customers. A cyclical reversal or a payment default by your main customer could set off a chain reaction of negative effects.

If one of your partners goes out of business, you might be unable to pay your suppliers, who might be forced in turn to delay payments to their own suppliers. Trade credit insurance can help you safeguard your cash flow and avoid bad debt. It covers your receivables due within 12 months against unexpected commercial and political risks (customer bankruptcy, changes to import and export regulations, etc.) and compensate you in case of bad debts.

Tip: Numbers are the starting point for dialogue with customers. If you see something strange in your receivables, reach out to the customer in question as soon as you can. You can work together to agree on a short- or long-term payment plan. Getting in touch with the customer if you detect early signs of weakness may help you to avoid considerable difficulties. Better yet, having these conversations may help to build long-term relationships of trust with your customers, even in case of late payments or unpaid invoices.

For more tips and advice on business monitoring, download our  ebook: Boost your financial performance analysis.