24.2: Accounts Receivable Flashcards
What is the main objective of managing accounts receivable?
The main objective is to balance the benefits of increased sales and improved customer relationships against the costs of non-payment and financing receivables.
What is credit analysis?
Credit analysis is a process designed to assess the risk of non-payment by potential customers, involving the collection of information about their credit history, ability to make payments, and overall financial stability.
What are the main decisions a firm must make regarding accounts receivable?
A firm must decide whether to extend credit, which customers will be granted credit, the credit terms offered, and the details of the collection process.
What factors influence a firm’s decision to extend credit?
The nature of the product, the industry, the prevailing policy of competitors, and a formal credit analysis process.
What is the trade credit decision?
The decision of whether or not to extend credit to customers, based largely on the nature of the product, industry standards, and the competitive landscape.
What is the difference between a firm’s decision to extend trade credit and a bank’s decision to extend a loan?
Both decisions involve assessing credit risk, but a firm’s decision often includes considerations of future profit margins from customer relationships, while a bank focuses on interest income and collateral.
What are the two main aspects evaluated in credit analysis?
The customer’s capacity to pay (ability to meet financial obligations) and character (willingness to pay and trustworthiness).
What sources of information can firms use to assess creditworthiness?
Professional credit agencies (e.g., Dun & Bradstreet), credit ratings, comprehensive credit reports, financial statements, and information from past credit relationships.
Define the term “capacity” in the context of credit analysis.
Capacity refers to the customer’s ability to pay, based on their expected future cash flow, debt levels, and financial obligations.
What is an open account credit?
Open account credit is when the collateral is simply the assets sold to the customer.
Define the term “character” in the context of credit analysis.
Character refers to the customer’s willingness to pay, based on their reliability, trustworthiness, and past payment history.
What role do economic conditions play in the credit decision process?
Economic conditions affect both the capacity and character of customers, influencing their ability to pay and the overall risk of extending credit.
What are the “two C’s of credit” and what additional C is considered?
The two C’s are capacity and character, with collateral often considered the third C.
Economic conditions form the fourth C, affecting all other factors.
How do firms prioritize the effort devoted to credit analysis?
Firms prioritize credit analysis based on the size of the order and the level of risk, devoting more time and resources to larger and riskier credit decisions.
Why is it important for firms to assess both the capacity and character of their customers?
Assessing both ensures that customers have the ability and willingness to pay, reducing the risk of non-payment and financial loss for the firm.
How can a firm’s credit policy impact its customer relationships and sales?
A well-structured credit policy can improve customer relationships and increase sales by offering financing options, while a stringent policy may limit sales and customer satisfaction.
What are terms of credit?
Terms of credit specify the due date and any discount date and discount amount offered to customers.
How do credit terms like “2/10 net 45” work?
“2/10 net 45” means the customer gets a 2% discount if they pay within 10 days, otherwise, the full amount is due in 45 days.
