Post on 06-Apr-2018
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Receivables Management
Semester II
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Objective of Credit Policy
The objective of credit policy is to promotesales up to that point where profit is
maximized There will be net increase in operating
profit only when the cost of extendedcredit period is less than the incrementaloperating profit/residual income
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Credit Policy Variables
In establishing an optimum credit policy,the financial manager must consider thefollowing important decision variables
which influence the level of receivables:1. Credit Standards
2. Credit Terms
Cash DiscountCredit Period
3. Collection Efforts
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Role of Credit Standards
Credit standards are criteria to decide towhom credit sales can be made and howmuch
Credit standards influence the quality offirms customers
time taken by customers to repay credit
obligationdefault rate
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The time taken by customers to repay
debt can be determined by comparingaverage collection period (ACP) withaverage payment period of the customer
Default risk can be measured in terms of
bad-debt losses ratio the proportion ofuncollected receivable. The estimate ofprobability of default can be determinedby evaluating the character, i.e.,
willingness of customer to pay; customersability to pay and prevailing economicand other conditions
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Types of customers
Firm may categorize customers into threekinds:
good accounts
bad accounts
moderate accounts
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Role of Credit Terms The conditions for extending credit sales are
called credit terms Credit terms include:cash discountcredit period Cash discounts are given for receiving
payments earlier than the normal creditperiod
The length of time for which credit isextended to customers is called the creditperiod
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Factors Determining Credit Period
Industry Norms
Objective of the Firm
Default Ratio and Bad-debt Losses
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Objectives of Collection Policy
Cause increase in sales
Prompt and regular collection
Speed up the collection of dues Keep down collection costs and bad
debts within limits
Maintain collection efficiency
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Firm should lay-down clear cut collection
procedures for past dues or delinquentaccounts
The collection procedure should be clearly
defined in such a manner that theresponsibility to collect and follow upshould be clearly defined
A firm needs to continuously monitor
and control its receivables to ensure thesuccess of collection efforts
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Factoring Factoring involves an outright sale of
receivables of an organization to a financialinstitution or private agency, called factor
A factor specializes in management of tradecredit
Factors collect receivables and also advancecash against receivables to solve the client
firms liquidity problem For providing their services, they charge
interest on advance and commission forother services.
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Functions of Factor
1. Financial Assistance: Factors providefinancial assistance to the client byextending advance cash against book
debts.2. Credit Administration: Sales ledger
administration and credit management
services to his clients, by maintaining theledger of customers of clients, taking allfollow-up actions, etc.
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3. Protection: Protection against default in
payment by debtors, by initializing legalactions at an early time.
4. Credit collection: When individual book
debts become due from the customer, thefactor undertakes all collection activitythat is necessary. He guards the interestof his client, by developing better
strategy against possible defaults bycustomers of his client; etc.