Late paying clients and the impact on FCF and Growth

Post 20241030.2

Every company I worked at, regardless of size, and almost every startup I’ve advised has had this issue to varying degrees. More often than not it has the effect of paralysing the business, so its crucial you look at ways to prevent this, and monitor so that you have a canary in the coal mine if a bad actor starts to misbehave.

Impact

last accounts receivables generally have a massive and immediate impact for a startup, even if you have cash reserves (runway), what happens is immediately burn needs to be covered by cash reserves which may already have been allocated for other purposes, so now, those other initiatives are delayed until the cash reserves can be replenished. That has a knock-on effect since these initiatives generally drive growth and efficiency, and therefore future revenue and growth projects are tied to the completion of these initiatives, so a domino effect occurs where a late invoice takes away cash for a growth initiative, delaying it, and now the annual targets are delayed, and since the runway was calculated dependant on that annual target, now the business is in a crisis mode as a result of the butterfly effect of a late payment. I might be exaggerating, but this isn’t far from the truth.

Dynamics

Typically the larger the client the more likely they’ll pay late, your first indication will be when the review the contract and start to ask for, or even demand payment terms. I personally haven’t see this kind of pattern with consumer startups, typically its B2B startups where the average monthly fees are over 1k USD. The next thing to look out for is the invoicing process, relative to the amount you’re charging the client if the process seems unnecessarily long i would consider that a red flag. Next red flag will be the actual delay in payment, it could simply creep up, even from the first payment where its only a day late, to suddenly, but thats an obvious red flag.

The dilemma

So here’s the problem, if this bad client represents a large % of your revenues, pressuring them could result in them terminating the relationship and even if its not immediate, it’ll leave you with a hole to fill. Worse still, I’ve witnessed where the client is large enough that that they can simply drag their heels until you run out of runway and shut down before they pay, if anything, thats almost part of their strategy in the instances where i’ve seen that happen. They may also use payment as a way to get additional discount or add more work scope.

Regardless of why they’re doing the delay, bottomline is if you can’t collect the cash, your cashflow will suffer and jeopardise the survival of your business. Confronted with this its obvious that prevention is better than cure.

Band-aids

If you already find yourself in this kind of a dilemma, try and speak to the most senior person in the clients finance and try to get to the root of the hold up. Try and get even partial payment to begin with. You can consider withholding work or access as leverage. You should have a process in place that consistently and regularly chases for payment, with an escalation hierarchy where at the end of that process you might even have a letter drafted from your legal representatives to pressure for payment (not that you want to be escalating to that level all the time). In parallel you may look at investors, shareholder and other stakeholder that may have more ‘power’ over the client whom you can leverage or threaten to contact as a means of pressuring for a resolution. some nicer tactics may be to provide a small discount if they make the payment immediately, or early; or added credit for example an additional months platform access, but you really want to be mindful that you don’t end up rewarding bad behaviour.

Vitamins

Prevention is better than cure, so first get your invoicing process clear, and consistent, have escalation processes and notification processes in place so the right people are notified at the right time as the late payment escalates, during the contract signing, make sure that all parties are aware of the payment timelines and obligations, use this time to also understand the clients process, procedures and documentation requirements, aim to get a point of contact directly with the clients finance department. make sure you have terms that charge interest or have consequences documented for late payment, that these are reviewed and ideally have specific ‘section signatures’ confirming the client is aware of the penalties and consequences. aim to diversify your client concentration so no large client can hold you to ransom. Lastly, don’t forget to send and actually chase the invoice, you’d be amazed how often late payment, can simply be a result of late invoicing.

TL;DR

late payments have a butterfly effect on runway and survival. There are tactics you can use, but they are aggressive and don’t really overcome the dilemma that the client may terminate the relationship. So ultimately you need to have process, procedures and legal protection in place upfront and aim to more widely distribute your revenues to mitigate this risk.