Definition of Credit Management:

A function performed within a company to improve and control credit policies that will

lead to increased revenues and lower risk including increasing collections, reducing credit

costs, extending more credit to creditworthy customers, and developing competitive

credit terms. Also called credit control.

PROCESS OF CREDIT MANAGEMENT:

1. Lending Process:

Ralston and Wright (2003) develop two elements to high quality lending practices

from their study on credit unions. The first step is obtaining systematic identification

of risk of each loan applicant. Saunders (1997) further agrees that it is necessary for

financial institutions to measure the probability of borrower default. However,

Thomas (2009) stresses that measuring the riskiness of a borrower can be difficult as

the problem of moral hazard could arise. Secondly Ralston and Wright (2003)

order to incorporate the high risk of a borrower. In general the presence or absence of

these elements may be significant for credit unions regarding their credit management

processes.

2. Credit limits:

One of the main functions of a financial institution is to realise proper control over

credit. Bessis (2002) underlines the importance of executing a limit procedure so as to

avoid any single loss that could endanger the financial institution. Dekker (2004)

argues that it is the lending officers role to place an instalment period and princi ple ‟

amount that would complement the affordability of the borrower.

Tips for effective credit manangement:

1. It is essential to include sales, finance, operations, and customer services in

communication to help understand the credit management (order to cash) process make

sure you understand your customers and their customers, i.e. the supply chain.

2. Communicate with your customers by phone, not impersonal e-mails, and make them

your partners.

3. Use on-line payment systems so that customers can pay at any time, whenever they

want rank salesmen/women and sales offices as to their success in credit management,

and publish the results to drive improvement.

4. Group and report your disputes by age, e.g. Green - 1 month, Amber - 2months, Red -

3 months, with the aim of Credit Policy allowing the Credit team to take control in month

4 to credit the customer if still not resolved.

5. To ensure there is on-going validation and improvement of all processes including,

getting feedback from everyone including customers, colleagues and management train

and retain good credit management staff produce and communicate simple and regular

metrics of the department’s performance.

3. Credit Checking:

Most commercial enterprises are sales-driven, which is to say that a great emphasis is

placed on finding new customers and getting customers to place product orders. The

function of credit management in this process is to check the creditworthiness of

prospective new customers and continue to monitor the creditworthiness of existing

customers. It may be that some prospective customers have such a bad credit rating that it

is not worth doing business with them. Credit management is also responsible for

negotiating payment terms and conditions with new and existing customers with the

intention of minimizing the potential exposure to bad debt. For example, if a customer

orders products monthly but only has a payment due every three months, credit managers

might renegotiate the credit terms offered to this customer if they suspect that the

customer's credit rating has lowered. Monthly terms, or even cash on delivery terms

would minimize the amount of outstanding bad debt owed by the customer.

4. Invoices and Billing:

Credit management is responsible for ensuring that invoices, statements and bills are

issued to customers, reflecting accurately the current status of the customer's account and

the amounts and details of payments due. Invoices must be dispatched early enough for

the customer to have time to evaluate the details contained in them and make payment by

the due date. An important credit management function is the checking of the details of

invoices and statements for accuracy. Inaccuracies could lead to the customer disputing

the invoice, resulting in a subsequent delay in payment, which would then adversely

effect cash-flow.

5. Credit Collection:

Credit management officers are responsible for identifying bad debts and for taking steps

to recover bad debts. This can involve the renegotiation of lines of credit (the cash-value

of goods and services that will be supplied to the customer on account), renegotiation of

terms of payment for subsequent purchases, and the negotiation of terms to repay

currently outstanding amounts. Where a customer is not willing or able to negotiate the

repayment of a debt, credit management officers may decide to pass the debt to

commercial credit rating and credit collection agencies. In extreme cases, civil actions are

instigated, allowing the courts to mandate the recovery of the debt.

Cash flow Three credit management best practices to help

protect :

1. Develop a credit policy:

This is the ‘boring but important’ phase of credit management, but don’t be tempted to

skip it, as it will make the rest of the credit management process a lot easier.

What should be in your credit policy?

1. Objectives: What is the purpose of this policy? Generally, to provide a reference on

the businesses you will extend credit to, under what circumstances, how much, and under

which terms.

2. Credit approval process: Set out the steps for how you will deal with new

debtors, including assessing creditworthiness.

3. Credit limits: Define the factors that contribute to each customer’s credit limit.

You may decide that all new customers will be held to a certain limit until they have paid

a set number of invoices on time, or you may choose to set limits according to the

customer’s risk rating.

4. Credit terms: Terms should include the length, for example ’30 days’, and any

disincentives for late payment, such as interest charges. The debtor must declare in

writing that s/he understands and agrees to these terms to make them enforceable.

5. Monitoring and reporting: Using CreditorWatch you can monitor your debtors

for adverse information (court judgements, defaults and ASIC changes). Evaluate your

debtors regularly, for example every quarter.

6. Response to bad debt: Set out the actions you will take if a debtor’s account falls

in arrears. This may include a warning process, possible consequences—such as lowering

credit limits or withholding credit, or shortening terms—and a collections process, for

example refinancing the debt, mediation/arbitration, using a debt collection agency or

litigation.

This is the ‘boring but important’ phase of credit management, but don’t be tempted to

skip it, as it will make the rest of the credit management process a lot easier.

2. Assess your debtor:

Especially in tight times when you are keen to make a sale, it is easy to overlook this step

in favour of blindly and enthusiastically accepting a new customer. Debtor assessment is,

however, probably the most important part of credit management as it tells you whether

to extend credit, how much, and what to expect from the debtor. Don’t let a customer

become a liability. Firstly, run a check on the customer to make sure it is a legitimate

business still trading. To do this, you need the customer’s Australian Business Number

(ABN) or Australian Company Number (ACN) to determine the business name and any

trading names it uses. Run those details through a credit reporting agency, CreditorWatch

will alert you to any defaults or court actions that may be pending.

3. Manage risk:

Credit assessment and act accordingly if there are signs of trouble. In many cases, timely

communication with the debtor is all it takes to keep the payments on track and the

relationship in check. Risk management is about allowing for contingencies that benefit

you in the long term, so a good credit policy should allow for financial mishaps and offer

solutions that help you avoid expensive, time consuming consequences like litigation

while keeping the customer relationship intact.