Page 265 - DMGT405_FINANCIAL%20MANAGEMENT

Unit 12: Receivables Management

Variable 60,000 × 6 × 1.15 414,000 Notes

Fixed 120,000 534,000
Profit on sales 156,000
Less Interest @ 15% on average receivables 10,013

534000 ´ 1.5
i.e., 15% ´
12
Net Profit 145,987
Hence, increase in profits of the firm and the firm should relax the credit standard 31,987

Credit Analysis

Besides establishing credit standards, a firm should develop procedures for evaluating credit
applicants. Two basic steps are involved in the credit investigation process – obtaining credit
information and analysis of credit information.

Did u know? On the basis of credit analysis the decision to grant credit to a customer as
well as the quantum of credit is taken.
Sources of credit information are internal and external. Internal means various forms filled in
by the customers giving details of financial operation, trade references of firms with whom the
customer has business, behaviour of the customer in terms of historical payment pattern in
respect of existing credit customer. External sources include copy of the published financial
statements, trade references and bank references. Finally, specialist credit bureau reports from
organizations specializing in supplying credit information can also be utilized.
Once the credit information has been collected from different sources, the next step is to determine
credit worthiness of the applicant. There are no established procedures to analyze the information.
The analysis should cover two aspects – quantitative and qualitative.
The assessment of the quantitative aspect is based on factual information available from the
financial statements, the past records of the firm and so on. Another step may be through a ratio
analysis of the liquidity, profitability and financial capacity of the applicant and comparison
with the industry average. Again trend analysis over a period of time will reveal the financial
strength of the customer. Another approach may be to prepare an ageing schedule of the accounts
payable of the applicant. This will give an insight into the past payment pattern of the customer.
The quantitative assessment should be supplemented by qualitative interpretation of the
applicants credit worthiness. For example, quality of management, references from other
suppliers, bank references and specialist bureau reports.

12.2.2 Credit Terms

Credit terms have three components:
1. Credit period in terms of time for which credit is extended, during this period the overdue
amount must be paid by the customer;
2. Cash discount, if any, which the customer can take advantage of i.e., overdue amount will
be reduced by this amount; and
3. Cash discount period, which refers to the duration during which the discount can be
availed of.

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