Chapter 8
Managing credit
Learning Outcomes
Define debt and credit, as well as debtors and creditors, and demonstrate
relation
Explain what is meant by the term ‘credit transaction’
Describe at least four different forms of credit
Explain at least eight possible advantages of granting credit purchasing facilities
to customers
Explain at least five possible disadvantages of granting credit purchasing facilities
Identify at least eight issues that must be addressed in a credit policy document
Explain and give examples of the seven major elements indicating a customer’s
creditworthiness
Demonstrate the contents, importance and advantages of using a formal credit
application form
Give at least three important factors relating to the effective implementation of
credit decisions
Explain the importance of effective control of debtors’ accounts.
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‘creditors’ vs. ‘debtors’
NB! Chapter deals with how credit is extended to clients
Debtors refers to the sum total of all the monies owed to an
enterprise by customers/clients at any given time
Creditors as the sum total of all the monies owed by
the enterprise to suppliers of the business or business
Trade creditors: monies Other creditors: monies owed
owed to suppliers of to suppliers of goods/services
goods/services intended intended for supportive/
for resale operational purposes
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Credit and debit
Credit Debit
is the debt that results whenever goods or is the monies owed to the business for
services are rendered without full rendering a service (is obliged to pay in
payment at the same time future, because it owes a debt to the
creditor)
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Credit transaction
Supplier Client
• Right to be
paid • Obligated to pay
Supplies goods and
• Payment to • Indicates payment will
be made in services be made in future
future
No immediate full payment
Credit transaction where goods& services are supplied from
supplier and receiver does not immediately make full payment
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Forms of credit
Open account Revolving account
Regular credit extended to client Client (debtor) is restricted to limit of
Full payment amount expected within accumulated debt
agreed upon period Difference between limit allowed and
actual amount owed is available
Instalment account Other forms of credit
Client is obliged to make regular - Cheques
instalment payments until full debt is paid - Post-dated cheques
- hire purchase: physical item is supplied - Paying via secure loans (against
to client for use however ownership collateral assets)
thereof remains with supplier until - Lay-byes: seller keeps item until client
item is paid in full pays in full
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Advantages of granting credit
Advantage Description
Increasing sale Providing availability of credit facilities when customer
does not have cash on hand
Increasing market share Growth in sales (based on above) means increase in
market share
Facing competition Providing facilities that are provided by competitors.
Selling more expensive As cash on hand is not possible, credit facilities for
products/services expensive products make it more attainable to have
expensive products
Cross-selling to existing Current customers can be informed of current promotions,
customers therefore encouraging them to utilise credit facilities for
ongoing transactions
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Advantages of granting credit
Advantage Description
Retention of customer Credit extensions reinforce long term relationship with a
base customer (more expensive to attract new customers than
to retain current customers)
Easier to exchange and Based on customer records, business is able to ascertain
adjust returned goods authenticity of returns (constantly returning goods is
suspicious)
Aiding advertisement and Calling customers to extend credit is targeted marketing
communications communication.
Increasing profits Clients purchasing on credit are less price conscious, and
thus business can increase profit margins
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Disadvantages of granting credit
Disadvantage Description
Higher administrative and Costs involved in the administrative processing of credit
operational costs paperwork
Possibility of late Not all clients will pay on time can place burdens on
payment by debtors business
Likelihood of bad debts Clients may not pay at all which will be written off by
business
Increased need for capital If payments are not received, business needs money to
cover expenses
Slowdown in cash inflow Waiting for full compensation means greater stress to find
additional sources of capital
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Realistic and sound credit policy
Written credit policy outlines what is permissible and covers
the what, where, why, when, who, and how of desired credit
practises.
A policy document is compiled after careful analysis and
planning
Gives guidance and information to the owner/manager and
employees as well as to the customers of a business
Should be periodically updated and implemented
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Client creditworthiness
In order to maximise the advantages of extending credit to
customers, entrepreneur/manager must ensure that his/her
decision to sell on credit is promoted as effectively and
efficiently as possible – and on a continual basis.
Customers should therefore be informed of this policy and
persuaded to take up the offers of credit being made+
Convince existing and potential customers to complete an
application form requesting that they be permitted to buy on
credit from the business.
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All the advantages of credit sales will be cancelled out and
even turned into a net disadvantage to the business if credit
customers do not fulfil their obligations to the business
NB! South African law stipulates that it is the responsibility of
credit suppliers to ensure that their potential debtors have the
ability to repay their debt.
Entrepreneur/manager takes precautions to minimise (and
preferably eliminate) the potential disadvantages of selling on
credit
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All the advantages of credit sales will be cancelled out and
even turned into a net disadvantage to the business if credit
customers do not fulfil their obligations to the business
Guideline Action
Credit history Consult credit bureau
Capital Credit assessment involves setting a credit limit
Conditions Any conditions that need to be negotiated and agreed upon i.e.
interest rate
Capacity Assess the applicant’s means and ability to honour the regular
payment of due monies as stipulated under the conditions of the
credit agreement.
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Guideline Action
Character Assessing the character of an applicant is never easy
• Is client trustworthy/own interests before obligations to other
parties/how punctual/good name of importance?
Collateral Offers as a guarantee in order to convince the giver of
credit that the applicant will meet all the obligations of the credit
agreement i.e. surety/other payments as reference
Common sense More knowledgeable and experienced the person assessing the
application, the better the final decision and its outcomes
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The credit application form
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Implementing credit decisions
1. Confirming 2. Signing a formal 3. Ensuring efficient
outcome of agreement with the and effective
application customer administration
• let a customer know • All aspects of any credit • effective and efficient
about the outcome of agreement must be administrative support
his/her application fully explained, system; Accurate
• for credit; opportunity discussed accounts must be sent
to foster a good • and understood by the out to debtors
relationship client before the first timeously and regularly
credit transaction takes
place; both parties
must sign a contract
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Controlling debtor’s accounts
diligence is required to ensure, that all debtors fulfil their
obligations as initially agreed upon
entrepreneur/manager must exercise the FAD (fanatical
attention to detail) principle
1. Sound administration
No opportunity should be given to the client to delay or dispute payment
2. Follow-up
- dedicated and disciplined follow-up of accounts in arrears, as well as debt
collection
- procedures, is important to ensure effective and efficient credit extension
practices
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Things to remember
Dedicated and disciplined follow-up of accounts in arrears, as
well as debt collection procedures, for effective and efficient
credit extension practices
Business must achieve all the possible advantages of credit
sales
Business must maintain effective and efficient communication
with customers
Always be friendly and professional when you deal with
customers in arrears
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Next Up
Questions?
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