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New Customers or Clients Risks Assessment



New Customers or Clients Risk AssessmentHaving new customers or clients, sure, ideally would boost company’s revenue. Getting new orders or projects, sure a great achievement, and brings bigger hopes for the whole management, employees and shareholders. Thanks to your marketer. But, as an accountant [particularly if you are an “Account Receivable Accountant”], you may [and eventually should] very well know that wrong kind of customer can cause large losses instead of yielding additional profit. Some new customers may be out-and-out crooks who never intended to pay for their purchases from the business. Other new customers may have good intentions but may be on thin ice financially and end up not being able to pay their accounts on time, or may not pay them at all.

One area where internal controls are needed but are often overlooked by many businesses concerns taking on new customers—especially if the business extends credit to its customers. Of course, most businesses put a high priority on securing new customers. A business should have controls guiding its sales staff for sorting out the wheat from the chaff. And, controller of your company would need to perform prudent assessment of the financial integrity and viability of new customers.


Here I post guidelines for making an assessment of the financial integrity and viability of new customers. I also include questions and/or customer inquiries that you may want to adopt to help you to be more effective in performing the assessment. Enjoy!


General Business Credit Risk Assessment


1. Related Parties Assessment

No, I am not talking about visits from the dreaded in-laws during the holiday season but rather the risk inherent in conducting business with an entity that transacts with a number of closely associated entities.

Various entity forms (corporations, LLCs [Limited Liability Companies], partnerships) are available to structure businesses and to protect assets that are legal and represent legitimate and viable strategies. However, multiple related parties can be hidden in a maze of legal entities that can pose all types of problems.


No one needs to look any further than the recent disaster with Enron Energy to understand why related-party transactions should be viewed as a red flag. On the flip side, understanding all of the related parties involved with an account may offer new leads.


2. Concentration Risk Assessment

Accounts that generate high volumes of sales with only a few customers (or just one) have always been singled out as having increased business risks.

This concentration risk (as it is referred to in the banking world) can be a major problem for accounts that rely heavily on only a couple of customers to generate significant revenue. Cash flow problems, profitability issues, and so on all increase as a result of this business model.

Also, the concentration risk works both ways: If the customer is dependent on a key supplier or vendor to operate and produce products/services, then if that supplier/ vendor experiences problems, so will the customer.


3. The Consummate Salesperson Assessment

Simply put, if the customer spends the majority of the time “selling” the business (rather than discussing the operating issues with which they’re confronted), then a flag should be raised.

Although it is important to understand the business of your customer, being constantly “sold” on why the business is so good and has so much potential should raise an eyebrow. I think most of the management team would agree that you guys are generally retained to support the customer and to help manage an operational issue. Your company are not there to invest in the company and/or to help promote its legitimacy.


4. Industry Association Assessment

One should always be keenly aware of the general characteristics of industry within which the customer operates.

Different risks and operating standards are present within various industries that when understood may help us evaluate the risks present. For example: companies that operate in the health/medical care industry are often subject to lengthy billing and cash-receipt cycles (e.g., 90 days) as a result of how the insurance sector works. This is vastly different from a retail operation, which generates most of its sales in cash at the point of contact (but which has much larger inventory issues to manage).


5. The Hot New Business Assessment

Without question, this has been one of the most difficult credit and collection issues for your company during the past year. Needless to say, Dot.Com to Dot.Bomb companies are a perfect example of this.

However, other companies in other industries represent just as big a risk. These types of companies tend to be very young, in rapid employee ramp-up stages, make references to additional capital/investments being needed, are pre-revenue, and so on. The length of time a business has been in operation should be an important focal point.

A company that has been in business for 10 years, weathered an economic downturn, and built a solid reputation helps ease some anxiety, as opposed to a company that is simply riding a short-term economic wave, which almost always crashes.


6. Recent Material Event Assess

A significant and recent material event with a customer may be cause for concern or optimism. For example: if your customer was recently acquired by another organization, then payment cycles may change, usage levels may fluctuate, and so on.

Other common references to events such as these may include a corporate restructuring, senior management terminations, awarding of a large contract, and ramping up for production. Once again, a recent material event shouldn’t be viewed as a negative but rather as a business risk that needs to be proactively managed.


7. The Management Team/Reputation Assessment

The importance of a qualified and reputable management team (at the customer) cannot be emphasized enough. The problem for your company is how to gain an understanding of this issue in relation to understanding business risks.

I think most management team members would agree that once you’ve operated in a market for a while, some amount of common knowledge is obtained as to whom your company want to work with.


What is more difficult is to evaluate the management team of the company in a very short period. Key points of reference with this issue may include identifying information on the availability of organization charts, family members involved in management, titles of key management members, qualifications of the management team, availability of basic operational and financial information, use of external professionals (e.g., a CPA firm, banking relations, an insurance company) to support the operation.

In addition, the ability of the management team to clearly communicate issues and problems to us (on a proactive basis) is critical. This displays an attitude that your company is a partner rather than just another vendor.


8. Your Instinct Assessment

Last but not least is the issue regarding following your sense, gut, and/or instinct. If something smells like you-know-what, looks like you-know-what, feels like you-know-what, and tastes like you-know-what, it probably is you-know-what. This doesn’t mean that your company wouldn’t conduct business with the account, but rather that further evaluation and investigation may be needed to manage the business and credit risks present. Sometimes, just touring a facility or observing simple employee actions can provide a great deal of information about the account.

It is extremely important to understand that the guidelines just noted do not mean that your company will not conduct business with the customer just because flags are raised. Conversely, it may provide us with even greater business opportunities. However, how the company manage the risk with a particular customer may change as a result of the flags raised.



Questions To Ask to New Customers

Needless to say, hundreds of potential questions could be listed to assist your company’s management team in performing inquiries of the customer. Rather than list all of the questions, I’ve broken them down into the following five main segments/areas:


Area-1. Business Stability

  • How long has the company been in business? Has it moved recently? If so, why did it move?
  • Has the management team remained intact, or has there been turnover in the managers?
  • How many customers does the company have?
  • Do any customers represent significant accounts (e.g., over 10% of total sales)?
  • What industry would you classify the company as operating in?
  • What issues are currently impacting the industry?


Area-2. Growth Potential

  • How has the company’s overall head count changed during the last year (or three years or five)? Has the mix between temporary staff and permanent staff changed?
  • Is the company expecting any near-term change (increase or decrease) in business? If yes, how will the company manage it (e.g., adequate financing, personnel strategies, etc.)?


Area-3. Management Qualifications and Strategic Focus

  • What is the total number of years of management experience on board?
  • Has the management team incurred recent turnover?
  • Does the company prepare a business plan? Does the company utilize forecasts/projections?
  • Is this a family-owned-and-operated business? If yes, what type of succession plan is in place (i.e., will the kids take over the business)?
  • What type of training and/or human resource skills are available to the company (internal and external)?
  • Does the company have an active board of directors (or similar type of supporting group)?


Area-4. Financial Resources

  • How has the company performed financially during the past three years (i.e., has revenue increased, decreased, or remained flat)?
  • Is the company operating at a profit, at a loss, or at the breakeven level?
  • Is the company currently relying on external financing to fund operations, or is it self sufficient?
  • Are audited/reviewed financial statements available?
  • How often are internal financial statements prepared?
  • How have the company’s key financial ratios trended recently (e.g., debt to equity, current ratio, etc.)?


Area-5. Material Events, Transactions, and Relationships

  • Does the company have any significant partners? If yes, what is the basis of the relationship?
  • Has the company acquired or sold any business interests recently? If yes, what was the strategic objective of these transactions?
  • Who owns the company?
  • What is the legal structure of the company? Is the company private or public?



  • All of the preceding guidelines should be applied to every situation. Certain of the guidelines may not be appropriate and/or feasible (or, conversely, other guidelines not mentioned may need to be applied) For example: It is not necessary at all to assess seasonal customers who pay your company in advance. Rather, the guidelines were prepared to provide the senior management team of your company with an additional tool to assess business and credit risks.
  • Also, a number of alternatives are available to us for better protecting your business interests when a material business risk is detected (i.e., guarantees, prepayment options, letters of credit, UCC [Uniform Commercial Code] security interest filings, etc.).

The guidelines presented in this post illustrate how one business deals with the issue of avoiding taking on new customers and clients that may prove troublesome and may cause serious problems and losses. An ounce of prevention is worth a pound of cure, as they say. Every business has to adopt its own individual set of rules for new customers.

In this connection, it’s very interesting to note that CPA firms are bound under their professional standards to establish policies and procedures for deciding whether to accept or continue a client relationship and whether to perform a specific engagement for that client. The main purpose is to minimize the likelihood of association with a client whose management lacks integrity.


One of the key characteristics that CPA firms list is that the client should have “appropriately comprehensive and sound internal controls that are consistent with the size and organizational structure of the business” [AICPA, “Acceptance and Continuance of Clients and Engagements,” January 2004, Practice Alert, J1-2]. So, if your business contacts a CPA, you should be aware that the CPA firm will be doing a check on how good your internal controls are 🙂

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