When a supplier grants credit it is investing in a customer, which means commercial credit is the largest source of business financing in the world.
Trade distributors that offer credit will make an initial risk assessment of their customers and carry out periodic reviews. Documentation such as financial statements are vital and form the basis of any risk assessment.
Now the government is looking to modernise company law, with the intention of reducing the amount of red tape faced by SMEs. This is commendable, but it may have a detrimental effect by preventing resellers from maintaining credit levels.
The proposals include increasing the audit threshold to the maximum allowed under European law. In July, the Department of Trade and Industry (DTI) announced it is working on redefining the classifications for SMEs.
It has proposed that the threshold below which an audit is not required will be raised from £1m turnover to the new small-company threshold of £5.6m.
The current audit exemption threshold was raised from £350,000 in July 2000. At the time members of the Institute of Credit Management commented: "Companies had their ratings changed and additional security was required, credit limits were reduced, became more expensive and more effort went into assessing the creditworthiness of companies."
By increasing the threshold to £5.6m these issues may be compounded.
This proposed reclassification would lead to more businesses being able to file abbreviated financial statements at Companies House. The transparency of a company's financial situation will become more difficult to ascertain, and the danger of un-audited fraudulent financial statements being filed will increase.
Also, the information Companies House receives is not verified. This means that as official information diminishes, producing up-to-date management data for trade suppliers will become increasingly important.
Resellers should consider providing credit agencies with the information suppliers require. This will help the agencies to review their recommendations, which are ultimately used by suppliers of trade credit.
Distributors are more likely to extend credit lines if they are kept informed, and if payments are made on time, SMEs can create a profitable trading relationship.
The DTI document is available here.
Alan Norton is head of Intelligence at Graydon.
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