Accounts Receivables Management

(Debtors Management)

Receivables-Meaning
Receivables (Sundry Debtors) result from
CREDIT SALES.
Receivables means- when firm makes an
ordinary sale of goods or service and
does not receive payment immediately, it
grant trade credit and creates accounts
receivables which would be collected in
future.
Reasons to Offer Credit
• To increase sales
• To manage Competition
• To increase Market Share
• Promotion
• Credit Availability to
Customers
• Customer Convenience
• To increase Profit
Cost -Benefit Analysis of Extending credit to
customers

Cost

Capital Cost
Collection cost
Delinquency cost
Default cost
Administrative cost

Benefits

Sales expansion
Protect from competition
Objectives of Receivable Management

The objective of Receivables Management is to take

sound decision as regards to investment in Debtors

Creating, preserving, and collecting accounts receivables

Establishing and communicating credit policies

Evaluation of customers and setting credit lines

Maintaining up-to-date records of accounts receivables

Initiating collection procedures on overdue accounts

Credit policy

Credit policy means those decision variables that

influence the amount of trade credit.

i.e. investment in receivables. A firm’s credit

policy provides the guide lines for determining
whether to extend credit to customer and how
much credit to extend.

A credit policy may be lenient or tight or normal.

Credit standard

Collection cost
Average collection period
Level of bad debt
Level of sales

Cost arising from relaxing credit standards

A larger credit department
Additional clerical work
Servicing additional accounts
Bad-debt losses
Opportunity costs
Credit analysis
Average collection period
Default risk
Evaluation of credit worthiness of the individual’s desirous
to obtain credit from the firm.

Steps in credit analysis

1. Obtaining information on the credit applicant

2. Analyzing this information to determine the

applicant’s creditworthiness

3.Making the credit decision

Sources of collecting information

Financial statements
Credit ratings and reports
Bank reference
Trade reference

Five C’s of credit

Character
Capacity
Capital
Collateral
Conditions
Credit period

The total length of time over which credit is extended to a customer

to pay a bill. For example, “net 30” requires full payment to the
firm within 30 days from the invoice date.

Credit terms

Specify the length of time over which credit is extended to a

customer and the discount, if any, given for early payment. For
example, “2/10, net 30.”

Cash Discount Period

The period of time during which a cash discount can be taken for
early payment. For example, “2/10” allows a cash discount in the
first 10 days from the invoice date.
Collection procedures
• Letters
• Phone calls
• Personal visits
• Collection agencies
• Legal action
Optimum credit policy

Estimation of incremental profit

Estimation of incremental investment in
receivable
Estimation of incremental rate of return
(IRR)
Comparison of incremental rate of return
with required rate of return (RRR)
Optimum credit policy
IRR = RRR
Factoring

Factoring may broadly be defined as the

relationship, created by an agreement,
between the seller of goods/services and a
financial institution called the factor, whereby
the latter purchases the receivables of the
former and also controls and administers the
receivables of the former.
 PROCESS OF FACTORING

CLIENT CUSTOMER

FACTOR
The steps involved in factoring are discussed below:
Step I. The customer places an order with the seller (the client).

Step II. The factor and the seller enter into a factoring agreement about the
various terms of factoring.

Step III. Sale contract is entered into with the buyer and the goods are
delivered. The invoice with the notice to pay the factor is sent along with.

Step IV. The copy of invoice covering the above sale is sent to the factors,
who maintain the sales ledger.

Step V. The factor prepays 80% of the invoice value.

Step VI. Monthly Statements are sent by the factor to the buyer.

Step VII. If there are any unpaid invoices follow up action is initiated.

Step VIII. The buyer settles the invoices on expiry of credit period allowed.

Step IX. The balance 20% less the cost of factoring is paid by the factor to
the client
Functions of factoring

The purchase of book debts or receivables is central to the function

of factoring permitting the factor to provide basic services such as:

• Administration of sellers’ sales ledger.

• Collection of receivables purchased.

• Provision of finance.

• Protection against risk of bad debts/credit control and credit

protection.

• Rendering advisory services by virtue of their experience in

financial dealings with customers.
TYPES OF FACTORING 

• Recourse Factoring

• Non-recourse Factoring

• Advance and Maturity Factoring

• Conventional or Full Factoring

• Domestic and Export Factoring

• Limited Factoring

• Selected Seller Based Factoring

• Selected Buyer Based Factoring

• Disclosed and Undisclosed Factoring

Illustration 1

Sundaram trading limited is considering to increase its

credit period from ‘net 35’ to ‘net 50’. The firm’s
expected sales to increase from Rs.120 lakhs to
Rs.180 lakhs and average collection period to increase
from 35 days to 50 days. The bad- debt loss ratio and
collection costs ratio expected to remain at 5% and 6%
respectively. The firm’s variable cost ratio is 85 per
cent and corporate tax rate is 35 per cent and the after-
tax required rate of return is 20 per cent. You are
required to advice whether the company to relax the
credit period.
Illustration 1

Sundaram trading limited is considering to increase its

credit period from ‘net 35’ to ‘net 50’. The firm’s
expected sales to increase from Rs.120 lakhs to
Rs.180 lakhs and average collection period to increase
from 35 days to 50 days. The bad- debt loss ratio and
collection costs ratio expected to remain at 5% and 6%
respectively. The firm’s variable cost ratio is 85 per
cent and corporate tax rate is 35 per cent and the after-
tax required rate of return is 20 per cent. You are
required to advice whether the company to relax the
credit period.
Illustration 1

Sundaram trading limited is considering to increase its

credit period from ‘net 35’ to ‘net 50’. The firm’s
expected sales to increase from Rs.120 lakhs to
Rs.180 lakhs and average collection period to increase
from 35 days to 50 days. The bad- debt loss ratio and
collection costs ratio expected to remain at 5% and 6%
respectively. The firm’s variable cost ratio is 85 per
cent and corporate tax rate is 35 per cent and the after-
tax required rate of return is 20 per cent. You are
required to advice whether the company to relax the
credit period.