Sorry, Wrong Number: Why Improper Analysis and Internal Lack of Communication Can Render Metrics and Benchmarking Less Meaningful
Shappell, Brian, Business Credit
The recession has ended, whether most felt the pain subside or not. At least that's the conclusion made by the National Bureau of Economic Research. Based on statistics and analysis unveiled in mid-September, the recession actually ran its course by June 2009, and what has followed can be best described as a "slow expansion." Since then, the tightness of bank-to-business lending appears to have abated substantially based on some statistical and anecdotal evidence, especially during recent months. The Federal Reserve's most recent Beige Book, which tracks economic conditions in 12 regions over six-to-eight-week intervals, found that banks have been much more willing to lend to small- and medium-sized businesses for many months now. However, Fed contacts note that demand is running very low. Businesses have been very slow to invest money on capital spending projects, with the exception of those most needed and, thus, loan demand remains very low.
While that paradigm may have shifted of late, rendering many businesses more conservative than banks, has the philosophy also tipped too far in the extension of business-to-business credit? As such, could companies' risk allowance and goals have grown improperly matched, and are performance metrics failing to tell the whole story? Chuck Gahala, Ph.D., professor of finance at Benedictine University in Illinois, and former NACM-National Chairman Mark Tuniewicz, CCE are among a growing list that believes over-restrictive policies indeed have become increasingly likely, depending on the industry and how much it has struggled.
As such, certain metrics and benchmarking tools could be misread as positive for the company's bottom line when that's not the case. Whether because of fear, uncertainty or communication breakdowns within a company, those setting and analyzing metrics and benchmarking may find that the black-and-white statistics contain more shades of gray in this post-recession/tepid recovery phase.
Metrics Can Mislead
Frederick Scherr, Ph.D., professor emeritus of finance at West Virginia University, believes some seemingly positive metric results could actually betray the growth goals of a company, especially as just about every facet of a small business could still be a little shell shocked from the most dramatic and lengthy economic downturn since the Great Depression.
"Let's say you are using a metric for bad debt, and you get less than you expected. Is it a good thing? Not always," said Scherr. "Because you're trying to hit a target with your policy, that policy includes certain risk, which includes the default of customers. When you get less than you expect, it is possible that you're not executing the credit policy in the way you intended. Let's say you expect 1% lost in sales and you get 1/2%. You may be fortunate that customers didn't default this time. But it also may be that the people in your credit department for one reason or another are not taking the risk you want them to take. They're not granting credit to people who are a risk but are also potentially good customers."
Susan Delloiacono, CCE, director of credit for Certain-Teed Corporation, agrees that some bad debt metrics can be misleading. For example, taking the "no losses means I'm perfect" approach usually equates to some type of lost financial opportunity for the company.
"Sure, you can shut everyone off and make all of your risky customers pay for their orders on a cash-in-advance basis," said Delloiacono. "Absolutely, credit professionals have adopted this technique because it reinforces their goal of reducing or eliminating bad debts. Many credit professionals have bonus plans based on that very concept. But that metric can hurt the company in the long run. Anyone can act like our banking institutions do. When they got their hand slapped, they stopped lending. What did that do to small businesses? It was no good. …