CHAPTER 7

ACCOUNT RECEIVABLE MANAGEMENT

ACCOUNT RECEIVABLE MANAGEMENT

 Account Receivable - outstanding amounts owed to

a firm by its customers, as result of credit sales

 The amount of Account Receivable is determined by;

 Volume of credit sales
 Average length of time between sales & collections

(average collection period)

Account Receivable Management
(cont..)
Credit Policy
⚫ Is a system for managing Account Receivable that
includes
⚫ credit terms

⚫ collection policy, and

⚫ Credit standards

⚫ It provides service to customers, smooth out sales and

attract more sales
⚫ One of the variables that could affect the Firm’s Sales (i.e.
besides price, quality, advertising)
⚫ Changes in credit policy involve direct trade-offs
between cost and benefits (i.e. ease credit policy,
increases sales and profits but it could also increase bad
debt, cost for discount )
CREDIT TERMS

 Open terms, line of credits (i.e. 10 days grace

period)
 Cash before delivery (CBD), receive cash before
delivery
 Cash in advance (CIA), similar to CBD
 Cash on delivery (COD), immediate cash
payment
 Net 30, payment in full within 30 days
 2/10 net 30, entitle for 2% discount if payment
made within 10 days, or payment in full within 30
days
COLLECTION POLICY
Guidelines for Violating Collection Policy:
1. Reminder

✓ The first stage of the collection process that is

to remind the customer that the account is
overdue without payment.
✓ The techniques used – sending duplicate
invoice/brief notes/printed cards & aging
schedule for the account with reminder notes.

2. Follow Up
✓ if the first stage failed therefore the 2nd stage
involves actions such as follow up
letters/personal visit/telegram/telephone
3. Drastic Action

✓ The last stage that includes drawing a draft on a

customer, collection by attorney or collecting
agent.
✓ These actions represent the last resort effort by
the firm after follow up fails to collect the past
due accounts as it is drastic and unfriendly.
CREDIT STANDARDS

 Refers to minimum financial strength and moral

standings of acceptable credit customers.

 Factors involve;

 The willingness to pay

 The ability to pay

5 C’S OF CREDIT ANALYSIS
 Character – the commitment to meet credit
obligations (human qualities – honesty, integrity,
morality)
 Capacity – the ability to meet credit obligations
with current income (income/cash flows)
 Capital – the ability to meet the obligations from
existing assets if necessary ( applicant’s net worth)
 Collateral – refers to the security that backup the
finance ( in the form of real estate/manufacturing
equipment)
 Conditions – consideration of general and industry
economic conditions (conditions external to the
customer’s business affect the credit granting
decision).
Implications of changes in Credit Policy
◼ Credit terms: Lowers price. Attracts new customers and
reduces default sales outstanding (DSO). Shorter period reduces
DSO and average A/R, but it may discourage sales.
◼ Credit Standards: Tighter standards reduce bad debt losses,
but may reduce sales. Fewer bad debts reduces DSO.
◼ Collection Policy: Tougher policy will reduce DSO, but may
damage customer relationships.

A tighter credit policy may discourage sales but increases

cash holdings, invest the cash in more productive assets
EXAMPLE
 ABC sdn Bhd has a receivable collection period of
42 days and an inventory age of 68 days. Its
payment for purchasing of raw materials will be
on credit term 2/6 net 30.
i. If annual sales of the company are RM3.5
million with 60% of it on credit, calculate the
firm’s account receivable.
FORMULA
 ACP = (Acc. receivable/ credit sales) x 360

Answer:
42 = Acc. Rec./(60% x 3.5 m) x 360
42 (60%x3.5m) = 360
88,200,000/360 = RM245,000
 The end……