1. CREDIT
MANAGEMENT
Prepared By:
Ketan Vagh
Saurabh Raval
Nidhi Shah
Kushal Shah
Chirag Parekh

2. TABLE OF CONTENTS
 Terms of payment
 Credit policy variables
 Credit evaluation
 Credit granting decision
 Control of accounts receivable
 Credit management in India

3. TERMS OF PAYMENTS
 Cash Terms
 Open Account
 Credit Period
 Cash Discount
 Billing

4. TERMS OF PAYMENTS
 Consignment
 Bill of Exchange
 Letter of Credit

5. CREDIT POLICY
VARIABLES
 Credit Standards
 Credit Period
 Cash Discount
 Collection Effort

6. CREDIT STANDARDS
 ∆RI = [∆S (1 – V) - ∆S bn] (1 – t) -k ∆I
Where
 ∆RI = Change in residual income
 ∆S = increase in sales
 V = ratio of variables costs to sales
 bn = bad debt loss ratio on new sales
 t = corporate tax rate
 k = post tax cost of capital
 ∆t = increase in receivables investment.

7. CREDIT PERIOD
∆S *ACP * V
360
∆S/360 = average daily change (increase) in
sales. The divisor here can with equal
justification be 365, rather than 360
ACP = average collection perid

8. CASH DISCOUNT
 ∆RI = [∆S (1 – V) - ∆DIS] (1 – t) + k∆I
Where
∆S = Increase in sales
V = ratio of variable cost to sales
k = cost of capital
∆I = savings in receivables investment
∆DIS = increase in discount cost

9. COLLECTION EFFORT
 ∆RI = [∆S (1 – V) - ∆BD] (1 – t) + k∆I
Where
∆RI = Change in residual income
∆S = Increase in sales
V = ratio of variable cost to sales
∆BD = increase in bad debt cost
t = tax rate
k = cost of capital
∆I = savings in investment in receivables

10. Credit Evaluation
 Type I Error : A good customer misclassified as a
poor credit risk.
 Type II Error: A bad customer misclassified as a
good credit risk.

11. TRADITIONAL CREDIT
ANALYSIS
 “Five C’s of credit”
Charcter
Capacity
Capital
Collateral
Condition
 Sources of informations about five c
Financial statement
Bank references
Experiences of firm

12. Numerical Credit Scoring
 Identify factors relevant for credit evaluation
 Assign weights to these factors
 Rate the customer on various factors using
suitable rating scale.
 Multiply weights with the rating scale.
 Add all score to get consumer rating index
 Based rating index classify customer
Factor Facto Rating Factor
r Score
Past Payment Weigh 4
0.30 1.20
Net Profit
t
0.20 4 0.80
Margin
Rating 2.00
Index

13. Discriminant Analysis
 This technique is employed to construct better
risk index.
 e.g. ABC company manufacture some product for
industrial customer, they take two financial ratio
into consideration, namely return on Equity and
Current ratio.
Current
Ratio + + + +
+ +
O O+ +
O O
O + O
O
O
Return on Equity

14. CREDIT GRANTING DECISION
 P=Probability that customer pays his dues
 1-P=The Probability that Customer can not
Pays his dues.
 Revenue=Revenue from sale
 Cost =Cost of good sold

15.  Formula
 P(Rev-cost)-(1-P)Cost
 Example
ABC company is considering offering credit to a
customer.the probability that customer would pay is
0.8 and the probability that customer would default is
0.2.The revenue from sale would be Rs 1200 and cost
would be Rs.800
Sol:- 0.8(1200-800)-0.2(800) = 160

16. REPEAT ORDER
 FORMULA
{ P1(Rev1-cost1)-(1-P1)Cost1 }
+
P1{ P2(Rev2-cost2)-(1-P2)Cost2 }
 SOLUTION
{0.9(2000-1500)-0.1(1500)}
+
0.9{0.95(2000-1500)-0.05(1500)= 660

17. CONTROL OF ACCOUNTS RECEIVABLES
 Two methods for that
 Days’ sales outstanding
 Ageing schedule

18. Days’ sales Outstanding
Month Sales Receivables
January 150 400
February 156 360
March 158 320
April 190 310
May 170 300
June 180 320

19.  DSO= Account receivable
Average daily sales
Quarter
First 320 = 62 days
(150+156+158)/90
Second 320 = 54 days
(190+170+180)/91

20. Ageing Schedule
In days Receivables
0-30 35%
31-60 40%
61-90 20%
>90 5%

21. Collection of Matrix
 Whether the Collection is improving stable or reduced .
January February March
Collection 13 20 24
Of
payment

22. CREDIT MANAGEMENT IN
INDIA
 Credit Policy
 Credit Analysis
 Control of Receivables
 Room for Improvement