One method used to implement successful collections strategies is client segmentation. Not all clients are the same, nor are their reasons for delinquency. Effective client segmentation results primarily from identifying the cause of delinquency and classifying the client based on attitude, capacity to pay, solvency and location.
Effective client segmentation is not achieved early on; classification is a difficult task, which is why it is important to follow up with clients and monitor the number of days any client falls past-due. As the number of past-due days increases, strategies should change as the lender and collections agents come to know the client better. At the beginning the focus is on retaining the client, but as the number of days past-due increases the focus changes to recovering the loaned funds.
Segmentation is additional to the risk-level determination (data mining or score-based methodologies discussed above). However, if the institution does not have access to additional tools, it can apply a simple classification strategy, such as the following:
Clients who are willing and able to pay require simple collections activities. In many cases effective negotiation of new payment conditions is enough to recover the past-due amount and maintain the client. These individuals are usually clients who forgot to pay, did not receive the payment schedule indicating payment dates, or asked someone else who did not follow through to deposit their payment for them.
Clients who are willing but unable to pay require feasible alternatives and options. In these cases the most effective negotiating involves changing the loan conditions (restructuring, refinancing, etc). Depending on the payment behavior after re-negotiating the conditions, this client could also be a candidate for renewal. Generally these clients have experienced an unforeseen emergency, are going through a difficult situation, are victims of an investment gone bad, or are outspending their income.
Where signs of mismanagement are evident, the most effective strategy may be to involve a business turnaround professional to support the management team with expert advice and help craft and execute effective turnaround strategies.
Clients who are able but not willing to pay require lenders to ponder a question—is the lack of payment due to problems with the quality of service offered to this client? If the answer is “yes,” such problems must be immediately resolved. If the answer is “no,” collections must involve an immediate and more intensive strategy. If the new strategy is unsuccessful, then immediate legal action is recommended. It is not unusual to discover that these clients initially received erroneous information, that they disagree with the loan conditions or that payments were made but were not applied because of operational errors.
Clients who are neither willing nor able to pay require immediate legal action. Generally these are fraudulent clients with a bad credit history or poorly evaluated/approved credits. However, before moving forward it is important to determine their degree of solvency—that is whether the clients possess sufficient assets to obtain repayment. If they do not, any actions taken could be counterproductive. The lender must evaluate the cost/benefit of any action taken with these clients.
It is evident from this proposed segmentation that there is a direct relationship between the client’s intention to pay and the probability of recovering the loan—as the client’s intention to pay diminishes over time, so does the probability of loan collections. For this reason, action must be taken immediately on past-due loans in order to increase the effectiveness of collections.
Payment alternatives are important negotiating tools and key to the ultimate success of the collections process. Lenders must offer various payment alternatives adjusted to fit the diverse needs and situations of clients. This is akin to arming collections agents so they can win the debt-collections battle. The timely use of these tools is also important and demonstrates the institution’s capacity to react and respond to delinquency.
Traditionally, lenders have used restructuring and refinancing as the only payment alternatives. These two options do not necessarily address the needs presented by the wide gamut of client situations and imply a need for innovations and the creation of other alternatives. To be able to offer innovative alternatives, lenders need the support of a strong and flexible information system.
In general, if it is not possible to collect the loan in a single payment, valid alternatives should be identified. This should occur even if it means extending the loan term, implementing periodic evaluations or collecting minimum installment payments for a specified period of months and the remaining balance upon maturity. The client’s repayment behavior should be evaluated towards the final repayment, always considering the costs and benefits.
Payment alternatives may also include discounting late fees and charges from the total amount of the loan; if the loan is paid off more quickly rather than over a longer period of time the discount should be greater. For example, a client who is able and willing to pay the total amount past-due would receive a greater discount in fees than a client who requests 15 months to repay, thus creating an incentive for quicker loan repayment.
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