‚ÄúIn today‚Äôs economy, we all have to deal with higher risks, greater losses and greater delinquencies,‚ÄĚ said Vernon Gerety, Ph.D, VGAdvisors, LLC. ‚ÄúWhat I‚Äôve been preaching is consistency in the way that you deal with every client, based on the factors that you face, such as the quality of the customer, the amount of information you have on them and how long your relationship has been.‚ÄĚ
During the NACM-sponsored teleconference, ‚ÄúCredit Scoring and Improved Risk Management,‚ÄĚ Gerety stressed that credit managers must adopt credit scoring and the philosophies behind it, and apply them company-wide. The mantra being that those with the best risk management strategy win. If there is consistency in how customers are evaluated and the language that is used to describe them, a business is then set on a course for greater success. For example, using a risk-rated system to describe customer creditworthiness ‚Äď a simple A, B, C, D, F scale ‚Äď is a launching pad for better portfolio management and cross-functional communication.
‚ÄúWhat I‚Äôm suggesting is that no matter how you underwrite, your business would operate more effectively, from a strategic as well as operational perspective, if you designed a risk rating system to evaluate your customers,‚ÄĚ said Gerety. ‚ÄúA nice thing about a risk rating is that it‚Äôs a tool, whether you are using credit scoring or not, that allows you to say, we consider this an ‚ÄėA‚Äô credit and then it becomes part of the vernacular of how you talk about customers throughout your entire organization. It allows you to communicate more effectively with some non-credit type people, specifically sales and senior management.‚ÄĚ
That allows the credit department to easily explain to senior management and sales why they chose not to extend credit to a particular customer and it validates their efforts. They can report to management that they reduced the number of ‚ÄúF‚ÄĚ credits from the company‚Äôs customer portfolio and increased the number of ‚ÄúAs,‚ÄĚ decreasing risk and the possibility of defaults, while easily quantifying improvement.
In terms of credit scoring, there are plenty of companies that provide solutions, including NACM affiliates. But in reality, credit scoring programs are just an automated extension of a credit manager‚Äôs decision making process. It should be viewed as a partner to the credit function.
‚ÄúTechnology is not the solution, technology is the enabler,‚ÄĚ explained Gerety. ‚ÄúWhat technology has provided to us is a wealth of data. And our job as credit professionals is to turn data into information. What we do with that information is we make decisions; we use our knowledge and expertise and experience. Credit scoring fits right into that, but what credit scoring does is, instead of a manual perspective it does it from an automated perspective. And there are some advantages and disadvantages to that.‚ÄĚ
What technology also provides the credit department is consistency. Scoring utilizes past experiences to statistically predict future events. Statistical models can provide a superior risk tool by picking the most significant predictors of risk from hundreds of possibilities and determining the relevant importance of each predictive variable minus the hours of manual labor it would take a credit manager to conduct the research.
No matter what method companies use to determine the creditworthiness of new clients, Gerety said the most important aspect is keeping an eye on how customers are paying that company. A customer may have a great Dun & Bradstreet number and spotless financials, but once they are a client, credit departments need to continually inspect payment behavior. This can be a process of blending not only the internal data that has been collected, but also external data collected culled from outside sources to get a broader view of that client. If a customer is slow to pay a particular company but is paying everyone else on time, then that customer is either viewing that vendor as inferior or is using that vendor as a bank. It also means that the cash is out there, it just needs to be collected.
‚ÄúYou need to continually refresh your evaluation of your customers based on how you are being paid and going outside to see what changes may have occurred via other data sources,‚ÄĚ said Gerety.
In the current recessionary and emerging post-recessionary period, credit scoring has an important role as an application to trigger early-stage collections and to prioritize collections.
Professionals interested in hearing the replay of Gerety‚Äôs presentation can contact Tracey Flaesch at (410) 740-5560 or at firstname.lastname@example.org.
Matthew Carr, NACM staff writer. Follow us on Twitter @NACM_National