Credit and Accounts Receivable Management Chapter 5 Strategize The objectives of credit and accounts receivable management How credit and account receivable management fit into corporate finance and treasury operations How companies develop credit policies
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Differentiate among nine different types of terms of sale.
cash before delivery (CBD)
Buyer must make full and final payment before shipment or receipt of goods
Seller ships goods and the buyer pays upon receipt
Buyer has a week to ten days to make payment
Seller specifies a net due date by which the buyer must pay in full
cash on delivery (COD)
Seller specifies a net due date, but may offer an incentive if payment is made prior to that due date
Buyer must pay by a specified date the following month
Associated with documentary collections; the draft enables the seller to get paid; the bill of lading enables the buyer to get the goods
Seller agrees to accept payment at the end of the buyer’sselling season when the buyer has cash
draft/bill of lading
Seller ships the goods to the buyer with no obligation to pay until the goods have been sold or used
1. Establish and communicate the company’s credit policies
2. Establish terms of sale consistent with overall company objectives
3. Evaluate customer creditworthiness and set customer credit lines
4. Ensure prompt and accurate customer billing in conjunction with customer service or billing departments
5. Create, preserve, collect accounts receivable
6. Maintain up-to-date records of accounts receivable
7. Follow up on overdue accounts and initiate collection procedures when necessary
1. Credit standards
2. Credit Terms
3. Collection policy
1. Open Account
2. Installment credit
3. Revolving credit
4. Letter of credit
1. Unsecured borrowing
2. Secured borrowing
4. Captive finance subsidiary
5. Third-party financing
6. Credit cards
8. Private label financing
The annualized cost to a buyer of not taking a discount can be calculated as a function of the amount of the discount and the number of additional days of credit gained by delaying payment until the net due date.
If funds can be borrowed at a rate less than the cost of not taking the discount, then a buyer should borrow those funds and take the discount for early payment. If borrowed funds are more expensive (or not available), then the buyer should delay payment until the net due date.
If the company can borrow at less than 21.28%, it should do so and use the borrowed funds to pay early and take the discount.
The most commonly used measurement of accounts receivable is days’ sales outstanding (DSO), which is calculated by dividing accounts receivable outstanding at the end of a time period by the average daily credit sales for the period.
DSO is easy to calculate and gives a single number that when compared to the stated credit terms or to a historic trend provides an indication of a company’s overall collection efficiency. It may, however, be distorted by changing trends in sales volume, payment pattern, or by a strong seasonality in sales.
Assume a company has outstanding receivables of $398,000 at the end of the first quarter and credit sales of $567,000 for the quarter. Using a 90 day averaging period, the DSO for this company can be computed as follows:
If the company’s credit terms are net 60, the Average Past Due is as follows:
Average Past Due = DSO - Average Days of Credit Terms
Average Past Due = 63.2 Days - 60 Days = 3.2 Days
% of Accounts Receivable
Given the aging schedule below and assuming the credit terms are Net 60, 25% of the company’s accounts receivable are past due.
The percentage of past due accounts = 15% + 10%
Differentiate among the types of bankruptcy under the Federal Bankruptcy Reform Act of 1978.
When a company files for liquidation
When a company files for reorganization
When an individual files for reorganization