Magazine article Risk Management

The Evolving Role of Credit Risk Management

Magazine article Risk Management

The Evolving Role of Credit Risk Management

Article excerpt

Getting paid for delivering products or rendering services is not something most businesses would like to worry about. With so many other challenges to face, prompt payment is the kind of detail firms would like to think will take care of itself with the help of forthright clients. But the reality is that managing accounts receivable is becoming an issue of increasing importance not just to companies' financial personnel but to risk management as well.

Few risk managers have much background or experience in credit management. Generally, they come from backgrounds of treasury, insurance or risk mitigation. Traditionally, though risk managers have been concerned with keeping DSO (days sales outstanding) low and managing bad debt levels, which are also the two main concerns of credit managers. In other words, both focus on getting paid faster and not losing money.

It makes sense then for the risk manager to ask the credit manager to do a better job of bringing the numbers down, but to be really effective, the risk manager should do more than this, says Paul Beretz, founder and managing director of Pacific Business Solutions and a partner with Q2C of Clayton California. Risk managers, Beretz says, should look at the whole "quote-to-cash cycle," because this is where there are tremendous opportunities.

Ryan Lee, Ph.D., a professor in the Haskayne School of Business at the University of Calgary in Alberta, also sees a role for risk management in credit management. "As the concept of enterprise risk management expands, you will find that more and more risk managers and credit managers are working closer together," he says. "For example, our risk management curriculum is focused on the concept of ERM and encompasses financial issues. Students can take half of their courses in financial risk management and the other half in operational/hazard risk management."

According to Lee, risk managers can help credit managers understand that the contracts they' are creating with customers and the risk profile of a customer organization will definitely affect the credit risk that you end up taking on.

But before a risk manager and credit manager can begin working together, they need to identify a common language. Currently, each discipline uses different terminologies. "I think that it will eventually converge around financial risk terminology, because this is already being used by shareholders and regulators," says Lee. "Most of the terminology' used in the insurance field tends to be quite narrow. It doesn't have a very broad application. As such, it would be worthwhile for risk managers to become familiar with financial and credit risk management terminology."

Beretz has already experimented with the concept of risk managers and credit managers working together, in the sense that, in one organization where he worked, he assumed both roles in terms of credit risk management. "When I was in the telecommunications industry, I had a position with the title 'director of customer administration,' which was somewhat of a risk management position," he says. In that position, Beretz had responsibility for the whole process from order to collection: credit approval, order entry and administration (for domestic and international), invoicing, accounts receivable, cash application and collection activities.

In this role, he was thus able to exert influence on the whole process. Today he suggests risk managers do not approach the credit manager and ask questions such as, "Why is DSO at 90 days instead of 70 days? You need to do a better job of collecting." The reason is that the problem may be on the front end, not the back end.

"I realized that in my position, I could control the front end," he says. This is where some root-cause issues existed, such as a purchase order not always being accepted. Along with his order entry manager, Beretz would then begin a root-cause analysis to determine how they could do a better job of accepting orders. …

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