To Your Customers Establish Effective Credit and Collection Policies Advantages of Trade Credit In Your Business Encourage customers to buy more Improve customer loyalty and build good ID: 625086
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Slide1
Extending Credit To Your Customers
Establish Effective Credit and Collection PoliciesSlide2
Advantages
of
Trade Credit In Your Business
Encourage
customers to
buy more
Improve customer loyalty and
build good
customer
relations;
Make
your customers less sensitive to price and more focused on the services you
offerSlide3
Advantages
of
Trade Credit In Your Business
You can factor or finance receivables
Well designed accounts receivable management policies impress potential creditors and investors Slide4
Disadvantages
of Trade
Credit
Accounts receivable often constitute a significant portion of assets.
Receivables may not be highest quality given firm’s recent financial condition.
Controlling the accounts receivable process demands the development of policies that are compatible with an enterprises profit, liquidity and market share
.Slide5
Accounts Receivable Policy
Granting credit is actually the practice of making an investment in your customers.
You
have to decide what customers are worthy of that investment
.
If
you do a cost/benefit
analysis and
make
the
important
decision to extend
credit you need
to
establish
procedures for credit and collecting accounts. Slide6
Accounts Receivable Policy
Let’s begin with the Acceptance Rejection Model linked to Excel
The Acceptance/Rejection Costs model serves as a framework for evaluating decisions on changing credit policies;Slide7
Accounts Receivable Policy
Since the accounts receivable policy has a broad impact, it must be managed carefully and assessed frequently
.Slide8Slide9
Accounts Receivable Aging
Problems in individual accounts can be detected through analysis of your receivables by aging.
A
receivables aging divides each customer's account into amounts that are 0-30 days old, 31-60 days old, 61-90 days
old
.Slide10
Number of Days Outstanding
Amount
Percent
0 - 30
30 -4 5
45 – 60
60 – 90
90 or more
Total
$45,000
$11,000
$6,500
$3,200
$1,900
$67,900
66.27%
16.64%9.57%4.71%2.80%100.00%Slide11
Aging Schedule of Accounts ReceivableSlide12
The
Credit Check:
Scope and Details
Phase One: Review Customer Financial Statements
Phase Two: Follow Through Receivables
Key
Points
Examination
of receivables: classification of accounts and aging.
Obtain
credit reports and
checkings on
largest accounts.
Verify
receivables. Compute collection period for each account. Slide13
Scope
and Details
Classify accounts into acceptable and unacceptable categories
.
Before acceptance into borrowing base need measurements of receivable management:
Average
Collection
Period
The
delinquency
ratio = past
due receivables over credit
sales
The
bad debt ratio
: = write-offs
over net
receivablesSlide14
Scope
and Details
Check files of past due accounts.
Review
recent correspondence and collection efforts.
Review
large positions
.Slide15
Review Accounts Receivable Policy In DetailSlide16
Broad Picture
Consider sound credit policy issues
Quality standards
Terms
Limitations
Instruments and payment methods
Explore collections and credit insurance as well as internal and external financing options Slide17
Broad Picture
Effective procedures for credit approval, collection, processing payments and past due accounts are identified
Proper evaluation is emphasized
analytical methods to improve the accounts receivable policy. Slide18
Internal and External Constraints
Accounts receivable policy requires careful evaluation of potential impact on:
sales volume
cash management objectives and procedures;
direct and indirect costs of receivables management; and
customer
relations.Slide19Slide20
Credit Policy
Factors that influence credit policy:
Ability to finance the credit policy.
Costs of financing receivables estimated to determine which approach is feasible;
Industry credit terms.
Terms tend to be alike throughout industry. However, if enterprise has a superior product or service, consider more restrictive credit terms than industry average; Slide21
Credit Policy
Competitive issues.
credit policy often limited by competitor and customer
reactions Slide22
Credit Policy
The size of customer base and relative risk profile of customers.
Credit policy take into account major, high-risk customers and the weighting that should be given to them in relation to the total customer
base Slide23
Credit Policy
Sales volume
If a new or changing credit policy is expected to increase sales volume, ability to meet customer demand considered;
Late payments and defaults.
As a firms credit policy is eased, late-payment and default risk usually increase; Slide24
Credit Policy
Sovereign risk and credit policy on export sales.
Export sales credit policy consider political, economic, and local practices
. Slide25
Credit Quality Standards
To evaluate overall credit quality, five Cs of credit are considered. Each is weighted relative to its importance to the enterprise and the availability of information for constructing probability estimates. Slide26
The Credit Report
Corporate summary financial statements
key ratios
appropriate trend analyses
Credit history showing
payment timing
credit limit
legalSlide27
The Credit Report
Customers credit quality ratings reassessed on a regular basis, particularly major customers whose default could have serious financial consequences for the seller.
Consider credit migration
probabilitiesSlide28
The Credit Report
Consider amount of credit granted and used, the industry class, and general economic conditions.
Management should also regularly review critical factors chosen like financial factors and weighting assigned to each factor Slide29
Credit Period
The credit period is length of time credit is granted (for example, from invoice date to due date), and is normally established according to an industry standard
.Slide30
Credit Period
The credit period has direct impact on cost of financing receivables and on collection risk. An enterprise may elect to deviate from the industry standard for one or more reasons:
to obtain a competitive advantage
to reflect the enterprises classification of customer quality
or to adjust to longer-term economic or business changes.
.Slide31
Payment Terms
Credit terms normally specified on contractual documents, or on customer invoice or statement.
Cash before delivery (CBD) or cash on delivery (COD) required when buyer classified as poor credit risk.
In cases of an unknown or one-time customer, certified check may be required when order is placed, or before goods or services delivered
. Slide32
Payment Terms
Cash terms permit buyer payment period of about five to 10 days and used for high-turnover or perishable goods.
Invoice terms often stipulate net due date and discount date calculated from various starting dates: invoice, delivery, or client acceptance dates.
The terms may be quoted, for example, as 2/10, net 30 meaning a payment discount of 2% is given if the invoice is paid within 10 days. Full payment is required after 10 days but within 30 days. Slide33
Payment Terms
Watch Consignment sales
require holder of the goods to pay the supplier only when the goods sold.
Supplier retains ownership of goods until sold and may reclaim them or take legal action in cases of default.
The holder must maintain segregated inventory and sales records, and provide a periodic inventory reconciliation. Slide34
Discounts and Surcharges
Cash discount policies may be established for a number of reasons:
to conform to the industry norm
to stimulate sales
to expedite receipt of cash Slide35
Credit Limits
Credit limit categories codify total credit granted to customers in each credit quality classification.
credit limits regularly reviewed.
Periodic reassessments simplified by automatically reassigning customers to a higher credit limit level after specified period of satisfactory payment experience. Slide36
Credit Limits
Credit factors used to calculate single numerical value to assign credit limits and payment periods to different customers.
Credit score tempered by informed management judgment because accept-reject decision implicitly includes economic trade-offs: to minimize rejection of an acceptable credit customer (with loss of future business) versus to accept a poor credit risk (and resulting debt losses)Slide37
Credit Instruments
Written payment contracts agreed to by the enterprise and customers.
Instruments range from simple invoices to formal credit arrangements.
When selecting an instrument to be used consider industry standards, market norms, and buyer risks.Slide38
Payment Methods
Example: Electronic Funds Transfer
Factors to consider when determining possible payment methods are:
provisions of the Federal Currency Act concerning legal tender;
standard trade practices;
cost of processing;
cash flow implications; and
impact on collection risk.Slide39
Collection Policy
The collections policy should specify:
the employees directly responsible for maintaining the policy;
cash management techniques to be used to optimize cash inflow (including prompt invoicing);
a statement routine and payment processing method;
a detailed procedure for handling past-due accountsSlide40
Credit Insurance
Collection risk can be reduced by purchasing credit insurance, thus shifting some of the risk of bad debt losses to a third party.
Risk level has to be high enough to warrant the insurance premium.
For example, receivables concentrationSlide41
Overdue Accounts
Following is action of mid-sized firm:
request prompt payment of the account;
withhold approval or refuse to ship further goods (or provide service) until past due payments are made;
withhold approval until partial payment is made; or
refuse further credit.Slide42
Overdue Accounts
When partial payments required, policy should specify whether payments applied to oldest amounts outstanding, to smallest outstanding invoices (a process called shorting), or largest overdue amount.
payments should be made against specific invoices where possible.Slide43Slide44
Phase Three:
Evaluation of Sales Policies
A detailed analysis of the borrower's sales records are essential during the initial audit.
Typical methods will reduce sales into categories that include:
Geographic analysis where sales are separated by location. Determine geographical distribution of sales and concentration.
Product analysis. Size of package, and grade.
Class of trade.
Price.
Method: mail, telephone, direct selling.
Terms: cash or charge.
Order size.Slide45Slide46
Phase Four:
Product Analysis and Product Policies
Product Policies should be reviewed and generally include:
Sales volume,
Type and number of competitors,
Technical opportunity,
Patent protection,
Raw materials required,
Production load,
Value added
Similarity to major businesses
Effect on other products.