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AAT Level 4 > Credit Management > Flashcards

Credit Management Flashcards

1
Q

What are the benefits of advancing credit?

A
  • Encourage customers to stay with your business

-Potentially make them spend more money with your business

-This will potentially generate more profit

-If a customer receives credit then the business may not have to give them discounts

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2
Q

What are the risks of advancing credit?

A

-The business will have less working capital available as it will receive money from customers later

-There may be increased costs of administration (i.e. to collect the debts)
There is an increased risk of loss:
- there will be higher amounts outstanding from each debtor
- credit could be given to poorer quality customers

-Losses due to writing off a bad debt - it takes many times its value to cover.

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3
Q

Why is liquidity important for a business?

A

Liquidity is a measure of the extent to which a person or organization has cash – or can raise cash – to meet immediate and short-term liabilities.

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4
Q

What sources of information are available to us to help our business decide if we want to give or increase credit to a customer?

A 
Bank references
Management accounts
Sales team
Credit control team
Credit circles
Companies House
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5
Q

What does ‘Undoubted’ mean on a bank reference?

A

A good risk for the figure quoted

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6
Q

What does ‘good for your figure and purpose’ mean on a bank reference?

A

A reasonable risk and most probably OK

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7
Q

What does ‘should prove good for your figures and purpose’ mean on a bank reference?

A

Not so sure about this one - well worth investigating further before making a decision

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8
Q

What does ‘Although their capital is fully employed we do not consider the directors would enter into a commitment they could not see their way to fulfil’ mean on a bank reference?

A

This business has cash flow problems and should not be allowed any credit

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9
Q

What are the three attitudes the business depends on to run their business?

A
  • Risk
  • Liquidity
  • Profitability
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10
Q

What does profitability mean?

A

The ability to generate income which exceeds costs and to repay debts in the future!

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11
Q

What does the current ratio show?

A

Working capital expressed as a ratio.

  • The higher the better
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12
Q

What does quick ratio show?

A

A ratio comparing liquidity with short-term debts, but excluding inventory (which takes longer to turn into cash)

  • the higher the ratio, the better
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13
Q

What does the receivables collection period show?

A

The number of days on average that it takes for a receivable to pay

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14
Q

What does the payable period show?

A

The number of days on average it takes to pay a supplier

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15
Q

What does the inventory holding period show?

A

Number of days on average that inventory is held.

  • ideally the figure should not increase over time
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16
Q

What does gross profit margin show?

A

profit made before deduction of expenses

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17
Q

What does operating profit margin show?

A

profit made before deduction of tax and interest

  • this should remain stable
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18
Q

What does net profit margin show?

A

Profit made after deduction of all expenses

  • this should ideally increase over the years and not fall
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19
Q

What does the interest cover show?

A

The ability of a business to pay interest out of its profits

  • the higher the figure the better
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20
Q

What does return on capital employed show?

A

profit made related to the capital employed by the company

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21
Q

What does gearing show?

A

The extent to which the business is funded by debt

  • the higher the figure, the less secure the company
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22
Q

What does overtrading mean?

A

Overtrading is where the business grows its sales then finds it has too little working capital and so not enough cash available to support that level of sales

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23
Q

What are some of the warning signs of overtrading?

A
  • Rapidly increasing sales revenue, extended customer credit terms, trading with customers with a lower credit score.
  • Profit margins falling
  • Increased inventory and trade receivables increasing funds tied up in working capital
  • Reduced margins - business tries to saturate the market
  • Reduction in cash or new/ increased overdraft
  • Increased level of trade payables is common but not a sign on its own.
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24
Q

What are the solutions to overtrading?

A
  • Reduce sales to a manageable level
  • Managing the sales ledger more effectively and renegotiating supplier terms
  • Increasing resources through a new investor or extra capital
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25
Q

What must a letter or email refusing credit include?

A
  • Still trade on a cash basis
  • Explain that checks were done
  • Review in x months time
26
Q

What would you consider when a customer asking to vary their credit terms?

A
  • Consider why they want it
  • Increased limit
  • Increased payment period
  • Trading history
  • Invoices paid in full & on time?
  • Customer kept in limits?
27
Q

What does R.O.T stand for and what does it mean?

A

Retention of title

Supplier retains title of goods until they are paid for and can be identified

28
Q

How do you calculate a discount?

A

(d / 100 - d) * (365 / N - D) * 100 = Annual cost of discount

d = settlement discount %
N = normal settlement period in days
D = Settlement period for earlier payment in days
29
Q

What is credit insurance?

A

Insurance against incurring a bad debt

30
Q

What is the four different credit insurance policies?

A
  • Whole Insurance Policy
  • Annual Aggregate Excess Policy
  • Single Account Policy
  • Export Credit Insurance
31
Q

What is the Whole Insurance Policy?

A
  • Most common policy
  • Can cover entire sales ledger, but amount paid out would be up to 90% of the claim
  • Can be key accounts e.g. up to 40 customers for whole amount
32
Q

What is the Annual Aggregate Excess Policy?

A
  • Covers all loses above a certain “excess”
33
Q

What is the Single Account Policy?

A
  • A selected receivable may be insured
34
Q

What is Export credit insurance?

A
  • Credit risk of being able to chase up bad debts overseas

- Political risk of country you sell to

35
Q

What is the problem with credit insurance?

A

It is only any good when you can get it in the first place.

36
Q

How should the interest rate be calculated?

A

Bank of England base rate + 8%

37
Q

What are the four key elements of a contract and how do you remember it?

A

COAL

  • Offer
  • Legal Relations
  • Acceptance
  • Consideration
38
Q

How can an offer be terminated?

A
  • Running over a predetermined time limit or a reasonable period of time
  • the offeror cancelling the offer before it is accepted
  • a counter offer
  • acceptance or rejection of the offer
39
Q

What is a void contract?

A

Against the law e.g. contract ‘hit’

40
Q

What is a voidable contract?

A

Contract can be ignored as one party has been pressured to sign

41
Q

What is an enforceable contract?

A

Contract is valid but court will not enforce e.g. prostitution

42
Q

What is two examples of third parties that collect debts on your behalf?

A
  • Debt Collection

- Solicitor

43
Q

What are some key points about using debt collectors to collect your debts?

A
  • Independent
  • Highly Skilled
  • 70% success rate
44
Q

What are some key points about using a solicitor to collect your debts?

A
  • Usually employ a specialist solicitor.
  • Enforce repayment of debt, via courts or threatening letter!
  • Bring about bankruptcy or liquidation – realise assets & hope some money left over to pay you!
45
Q

What is the difference between bankruptcy or liquidation?

A

Bankruptcy is for an individual or partner in a partnership. Liquidation is for a limited company.

46
Q

How much money do you go to the small claims track court for?

A

£10,000 or less

No solicitors fess awarded - you do it!

47
Q

How much money do you go to a fast track court for?

A

£10,000 - £25,000

48
Q

How much do you go to a multi track court for?

A

£25,000 and over

More than 1 day - complex &/ or under £25,000

49
Q

What are the five types of ways for your debtors to pay?

A
  • Attachment of Earnings
  • Garnishee Order
  • Warrant of Execution
  • Administrative Order
  • Charging Order
50
Q

What is Attachment of Earnings?

A

regular amount deducted by employer from salary

51
Q

What is a Garnishee order?

A

debt paid directly by a third party who owes the debtor money e.g. bank or building society. Only applies on that day – when does money go in?

52
Q

What is a warrant of execution

A

court bailiff seizes and sells receivables’ goods on behalf of the business (retention of title clause) cannot break down door or take ‘tools of trade’

53
Q

What is an administrative order?

A

receivable makes regular agreed payments into court to pay off the debt.

54
Q

What is a charging order?

A

register a charge on customer’s property.

55
Q

What is the stages of the insolvency process?

A

All assets will be sold to then pay off creditors (payables). Trade (unsecured) payables often receive little or nothing.

  • Ensure the debt is £750 or more
  • Make a statutory demand to the debtor on an official form
  • If payment not received within 3 weeks send in a ‘creditors petition’ to the court, including ‘proof of debt’
  • Creditor meeting may be called
  • Court declares a bankruptcy order
56
Q

What is the order or a priority when paying debtors?

A
  • Costs of the bankruptcy/liquidation proceedings
  • Secured creditors with fixed charges
  • Preferential debts: (Pension contributions, Employee wages, etc, PAYE, NI, VAT.)
  • Secured creditors with floating charges (generally a bank)
  • Unsecured creditors (trade payables)
  • Shareholders (if limited co)
57
Q

What is the difference between administration or administrative receivership?

A

Administration – court appoints someone who runs business

Administrative receivership – bank who has floating charge to secure overdraft appoints someone to sell assets to repay overdraft.

58
Q

What are two ways to manage liquidity?

A

Factoring

Discounting

59
Q

What is factoring?

A

Money advance to a company on the basis of the security of its debtors.

Factors provide three main services:

  • Provision of finance (give you money quicker)
  • Administration of the sales ledger (they will take over all aspects, but they will charge
  • Insurance against bad debts (depending on whether the factoring is with or without recourse)
60
Q

What is invoice discounting?

A

Money is lent against the invoices issued to selected customers of the business

Invoice discounting in practice works like this:

  • When an invoice is issued to a customer, details are passed to the discounting co
  • Invoice discounting co will immediately lend between 60% and 90% of the invoice value
  • When the customer pays the invoice the company repays the invoice discounting co
  • The discounting co charges interest on the amount borrowed and also makes an admin charge

AAT Level 4 (7 decks)

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