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    6091fcbbdded96002ad5430d 1620180284 Big Picture C AR Management

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    Chi Bella
    Here are the answers to the questions: 1. The most common form of credit offered is open account credit, where the buyer is given a certain number of days (the credit period) to pay for goods received without interest charges. 2. The three quantitative measures that can be applied to the collection policy of the firm are: delinquency period, collection period, and turnover ratio. 3. Some factors that determine the length of the credit period include: the buyer's cash cycle, competition, and industry norms. The length of the buyer's operating cycle is often considered an upper bound on the credit period because extending credit beyond that cycle would not allow the buyer time to generate cash from sales to pay the supplier.

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    6091fcbbdded96002ad5430d 1620180284 Big Picture C AR Management

    Uploaded by

    Chi Bella
    26 views8 pages
    Here are the answers to the questions: 1. The most common form of credit offered is open account credit, where the buyer is given a certain number of days (the credit period) to pay for goods received without interest charges. 2. The three quantitative measures that can be applied to the collection policy of the firm are: delinquency period, collection period, and turnover ratio. 3. Some factors that determine the length of the credit period include: the buyer's cash cycle, competition, and industry norms. The length of the buyer's operating cycle is often considered an upper bound on the credit period because extending credit beyond that cycle would not allow the buyer time to generate cash from sales to pay the supplier.

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    FINANCIAL MANAGEMENT

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    c4f24683-9a38-440d-967c-8d21e7675361-6091fcbbdded96002ad5430d-1620180284-Big-Picture-C-AR-Management

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    Here are the answers to the questions: 1. The most common form of credit offered is open account credit, where the buyer is given a certain number of days (the credit period) to pay for goods received without interest charges. 2. The three quantitative measures that can be applied to the collection policy of the firm are: delinquency period, collection period, and turnover ratio. 3. Some factors that determine the length of the credit period include: the buyer's cash cycle, competition, and industry norms. The length of the buyer's operating cycle is often considered an upper bound on the credit period because extending credit beyond that cycle would not allow the buyer time to generate cash from sales to pay the supplier.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    26 views8 pages

    6091fcbbdded96002ad5430d 1620180284 Big Picture C AR Management

    Uploaded by

    Chi Bella
    Here are the answers to the questions: 1. The most common form of credit offered is open account credit, where the buyer is given a certain number of days (the credit period) to pay for goods received without interest charges. 2. The three quantitative measures that can be applied to the collection policy of the firm are: delinquency period, collection period, and turnover ratio. 3. Some factors that determine the length of the credit period include: the buyer's cash cycle, competition, and industry norms. The length of the buyer's operating cycle is often considered an upper bound on the credit period because extending credit beyond that cycle would not allow the buyer time to generate cash from sales to pay the supplier.

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    of 8

    Big Picture in Focus: ULOc.

    Discuss the importance of trading off


    liquidity and profitability in establishing credit and collection policies.

    Metalanguage
    For you to demonstrate ULOa, you will need to have an operational understanding of
    the following terms below.
    1. Credit Policy. A set of guidelines for extending credit to customers.

    2. Credit Standards. Refers to the minimum financial strength of acceptable


    credit customer and the amount available to different customer.

    3. Credit Terms. It is the length of period buyers are given to pay for their
    purchases.

    4. Collection Policy. Refers to procedures the firm follows to collect past –due
    accounts.

    Essential Knowledge
    To perform the aforesaid big picture (unit learning outcomes) for the weeks 4-5 of the
    course, you need to fully understand the following essential knowledge laid down in
    the succeeding pages. Please note that you are not limited to exclusively refer to
    these resources. Thus, you are expected to utilize other books, research articles and
    other resources that are available in the university’s library e.g. ebrary,
    search.proquest.com etc., and even online tutorial websites.
    1. Accounts Receivable Management

    The goal of accounts receivable management is to ensure that the firm’s investment
    in accounts receivable is appropriate and contributes to shareholder’s wealth
    maximization.

    2. Credit Policy

    It is a set of guidelines for extending credit to customers.

    1. Credit Standards. Refers to the minimum financial strength of acceptable


    credit customer and the amount available to different customer. It has
    significant influence over sales. If the credit policy is relaxed, while sales may
    increase, the quality of accounts receivable may suffer.

    Areas to be evaluated to measure credit quality:


    a. Character
    b. Capacity
    c. Capital
    d. Collateral
    e. Conditions

    2. Credit Terms. It is the length of period buyers are given to pay for their
    purchases.
    3. Collection Policy. Refers to procedures the firm follows to collect past –due
    accounts.
    4. Delinquency and Defaults.

    3. Summary of Trade-offs in Credit and Collection Policies

    Trade-Offs
    Benefits Cost
    1. Relaxation of credit a. Increase in sales a. Increase in credit
    standards. and total processing cost.
    contribution margin b. Increase collection
    costs.
    c. Higher Default
    costs.
    d. Higher opportunity
    costs.

    2. Lengthening of credit a. Increase in sales a. Higher opportunity


    period. and total costs higher
    contribution margin investment in
    receivables.

    3. Granting cash discount. a. Increase in sales a. Lesser profit.


    and total
    contribution
    margin.
    b. Opportunity income
    on lower
    investment in
    receivable.

    Intensified collection a. Lower default a. Higher collection


    efforts costs. expense.
    b. Lower opportunity b. Lower sales with
    costs. good quality
    receivables.

    When the management decides change the credit policy, they must determine first if
    the changes will give them an incremental profit, if there is, then pursue the changes.
    Illustration: (Relaxation of credit policy)

    ABC Corporation’s products sells for P10 a unit of which P7 represents variable cost
    before taxes including credit department cost. Current annual credit sales are P2.4M.
    The firm is considering a more liberal extension of credit, which will result in a slowing
    in the average collection period from one month to two months.

    The relaxation in credit standards is expected to produce a 25% increase in Sales.


    Assume that the firm’s required rate of return on investment is 20% before taxes. Bad
    debts losses will be 5% of incremental sales and collection expenses will increase by
    P20,000.

    Required:

    Should the firm liberalize its credit policy?

    Solution:

    Incremental Contribution margin from additional units


    (60,000 x 3) P180,000
    Less: Bad Debts (600,000 x 5%) 30,000
    Collection expense 20,000
    Incremental Profit P130,000

    Required return on additional investment:


    Present level of receivables (2.4M / 12 mos) P200,000
    Level of receivable after change in credit policy (3M / 6 mos) 500,000
    Additional Receivables P300,000
    Additional Investment in receivable (P300,000 x 70%) 210,000
    Multiply : Required return 20%
    Required return on additional investments P 42,000

    Conclusion:

    In as much as the profit on additional sales of P130,000 exceeds the required rate of
    return on the additional investments of P42,000, the firm would be well- advised to
    relax its credit standards.

    Illustration: (Change in credit terms)

    The Rhoman Shades Company has 12% opportunity cost of capital and currently sells
    on term n/20. It has current annual sales of P10M, 80% of which are on credit. Current
    average collection period is 60 days. It is now considering to offer terms 2/10, n/30 in
    order to reduce the collection period. It expects 60% of customers to take advantage
    of the discount and the collection period to be reduced to 40 days.
    Required:

    Should the company change its term from n/20 to 2/10, n/30?

    Solution:
    Present Proposed
    Opportunity Cost
    ROI x Ave. Receivables
    Present (12% x P1.333M) 160,000
    Proposed (12% x P0.888M) 106,667
    Sales Discount
    ( 8m X 60% X 2%) 96,000
    Total P160,000 P202,667

    Conclusion:

    The company would be better off by maintaining the present credit terms and policy of
    not granting cash discount because of the lesser costs involved as shown above.

    Self-Help: You can also refer to the sources below to help you
    further

    *Cabrera, E. B. (2016). Financial management: Principles and application (Vol. 1).


    Manila: GIC Enterprises & Co., Inc.
    *Brigham, E., & Houston, J.(2013). Fundamentals of financial management (13th
    ed.). Singapore: Cengage Learning Asia Pte Ltd.
    *Agamata, F. T. (2012). Reviewer in management advisory services (2013 Ed.).
    Manila: GIC Enterprises & Co., Inc.

    Let’s Check

    Questions:

    1. In what form of credit most commonly offered?


    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________.
    2. What are the three quantitative measures that can be applied to the collection policy
    of the firm?
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________.
    3. What are some of the factors that determine the length of the credit period? Why is
    the length of the buyer’s operating cycle often considered an upper bound on the
    length of the credit period?
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________.
    4. What are the five Cs of credit? Explain why each is important?
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________
    ___________________________________________________________________.

    Let’s Analyze
    Questions:
    1. The one item listed below that would warrant the least amount of consideration
    in credit and collection policy decisions is the
    A. Cash discount given.
    B. Quantity discount given.
    C. Quality of accounts accepted.
    D. Level of collection expenditures.
    2. When a company analyzes credit applicants and increases the quality of the
    accounts rejected, the company is attempting to
    A. Maximize sales.
    B. Maximize profits.
    C. Increase bad-debt losses.
    D. Increase the average collection period.
    3. Accounts receivable turnover will normally decrease as a result of
    A. An increase in cash sales in proportion to credit sales.
    B. A change in credit policy to lengthen the period for cash discounts.
    C. A significant sales volume decrease near the end of the accounting
    period.
    D. The write-off of an uncollectible account (assume the use of the
    allowance for doubtful accounts method).
    4. Numero 1 Co.’s budgeted sales for the coming year are P96 million, of which 80%
    are expected to be credit sales at terms of n/30. The company estimates that a
    proposed relaxation of credit standards would increase credit sales by 30% and
    increase the average collection period form 30 days to 45 days. Based on a 360-
    day year, the proposed relaxation of credit standards would result to an increase in
    accounts receivable balance of
    A. P1,920,000 C. P6,080,000
    B. P2,880,000 D. P6,880,000

    In a Nutshell

    Based on the concepts on financial forecasting presented, write the three remarkable
    lessons you learned.
    1. _________________________________________________________

    __________________________________________________________

    __________________________________________________________

    2. _________________________________________________________

    __________________________________________________________

    __________________________________________________________

    3. __________________________________________________________

    __________________________________________________________

    __________________________________________________________
    Q&A List
    Do you have any question for clarification? Write them here.

    Questions/Issues Answers

    1.

    2.

    3.

    4.

    5.

    Keyword Index

    Accounts Receivable Management


    Credit policy
    Credit terms
    Credit standards

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