Teamwork Presentation

Credit Management

What is Credit?

Receiving money, goods, or services on the basis of an agreement that the borrower will repay the lender with a specified time period at a specified rate of interest Today, total consumer credit is about $2 trillion (excludes home mortgages and home equity loans) Americans carry over one billion credit cards Over one million Americans file for personal bankruptcy each year (twice as many as ten years ago)

Credit management

Most business-to-business companies extend credit to their customers. It is often a crucial tool for attracting customers. How you manage that process is a fundamental part of cash flow management. People who owe you money, debtors, are a vital part of cash inflow and poorly managed credit can mean delays in converting sales to cash or, more seriously, trading with customers who are unable or unwilling to pay.

Definition

Credit refers to granting of money by one party to another generally for a long time period, thereby generating debt.
Creditor

(one who lends money) Debtor (one who borrows money)

Credit Management
Credit management
Accounts receivables payables management

RECEIVABLE MANAGEMENT

Receivables are asset accounts representing amounts owed to the firm as a result of sale of goods/ services in the ordinary course of business. They represent the claims of the firm against its customers and are carried to the assets side of the balance sheet.

Meaning

Receivables are a direct result of credit sales. Credit sales are given by a firm in order to increase the sales thereby increasing the profits of the firm. selling goods on credit--blocking of funds in accounts receivable. Additional funds are required leading to extra costs in terms of interest.

DEFINITION :

Receivables is defined as the debt owed to the firm by customers arising from Sales of goods and services in the ordinary course of business. When a firm makes an ordinary sale of goods or services and does not receive payment ,the firm grants trade credits and creates accounts receivable which could be collected in future. Receivables Management is also called Trade Credit Management.

PURPOSE OF RECEIVABLES:

Achieving growth in sales Increasing profits Meeting competition

COSTS INCURRED IN MAINTAINING:

Capital costs Administrative costs Collection costs Defaulting costs

FACTORS AFFECTING SIZE OF RECEIVABLES:

Level of sales Credit policies Terms of trade (components) credit period cash discount

OPTIMUM SIZE OF RECEIVABLES:

The optimum investment in receivables will be at a level where there is a trade off between costs and profitability. When the firm resort to a liberal credit policy, the profitability of the firms increase on accounts of higher sales. However , such a policy would result in increased investment in receivables , increased chances of bad debts and more collection costs.

Policies for Managing Receivables

A firm should establish receivables policies after carefully considering both benefits and cost of different policies . These policies relate to : Credit Standards Credit Terms Collection procedures

Accounts payable:

The objective of accounts payable is to slow down the payments process as much as possible. The delay in payment of accounts payable may result in saving of some interest costs but it can prove very costly to the firm in the form of loss of credit in the market. Therefore, the finance manager has to ensure that the payments to the creditors are made at the stipulated time periods after obtaining the best credit terms possible.

Overtrading & Under Trading

The concepts of overtrading and under trading are intimately connected with the net working capital position of the business . To be more precise , they are connected with the cash position of the business .

OVERTRADING:

(Over blowing the balloon) Overtrading - an attempt to maintain or expand scale of operations of the business with insufficient cash resources. Leads to high turnover ratio and low current ratio. Company has to depend on suppliers for supply of goods at the right time.

Causes of Overtrading:

Depletion of working capital Faulty financial policy Over- expansion Inflation and rising prices Excessive taxation

Consequences of overtrading:

Difficulty in paying wages and taxes Costly purchases Reduction in sales Difficulties in making payments Obsolete plant and machinery

Symptoms:

A higher increase in amount of creditors. Increased bank borrowing with corresponding increase in inventories Purchase of fixed assets out of short term funds A low current ratio and high turnover ratio A fall in the working capital turnover ratio.

Remedies:

Reducing the business Increasing finance Arrangement of more finance Final decision to sell the business as a going concern

Under-trading:

The Reverse of overtrading . Improper and under utilization of funds lying at the disposal of the undertaking. Level of trading is low as compared to the capital employed in the business. Results in increase in the size of inventories, book debts and cash balances.

Causes of under trading:

Under utilization of firms resources. Conservative policies followed by the management. Non availability or shortage of basic facilities necessary for production. General depression in the market resulting in fall in the demand of companys products.

Consequences of under trading

The profits of the firm show a declining trend resulting in a lower return on capital employed(ROI) in the business. The value of the shares of the company on the stock exchange starts falling on account of lower profitability. There is loss to the reputation of the firm on account of lower profitability and Creation of impression in the minds of investors that management is inefficient.

Remedies:

The management can adopt a more dynamic and result-oriented approach. The firm may go for diversification and undertaking new profitable jobs, projects resulting a better and efficient utilization of the firms resources.