The purpose of a credit policy is to ensure that everyone within a company understands the working procedure of credit sales, and, of course, to exhibit financial control over a contentious subject.
The following policy has not been written with any business/industry/country in particular, as such, it can only be used as information and not a strict guide: albeit useful information.
Credit Policy for XYZ Company
This Credit Policy defines the Credit Business Aims and Procedures where credit is provided to our customers/clients.
Main Highlights
Monthly Overdue Figure: £73,980 or less
Days Outstanding: 45
Credit Cycle: 65 Days
Credit Controllers: 2 (each with responsibility of 92 accounts and £36,990 balances)
CREDIT BUSINESS AIMS
Credit is used to maximize sales opportunities where:
1. Credit terms and conditions have been approved for individual customers and all customer details are complete and logged:
Credit accounts are originated by application, using our standard Credit Application Form. All accounts are individually assessed using both of the following systems: Underwriting Credit Authorities and Credit Limit and Conditions. The customer details are then updated to our computer system. The originals of both the Credit Application Form and Terms and Conditions of Sale must be retained.
2. Cash flow and financing cost permit:
The ‘credit cycle’ of our business is approximately 65 days. This is the time from gaining the sale,
purchasing raw stock (+7),
production (+11 =18),
raising the invoice (+2 =20)
and receiving payment (+45 =65 days).
To adequately fund credit sales we require cash at bank equivalent to *35 days of average purchases to ensure we do not use external funding. Our borrowing cost from the bank is 8% over bank base rate, currently 3.5%, a total of 11.5%.
*Credit cycle 65 days,
less allowance of credit period, being 30 days,
leaving 35 days
3. The customer’s account is maintained within the authorised limits:
All credit customers have credit limits and repayment periods: no ‘standard’ terms exist. If the customer account has an outstanding invoice (i.e. over 30 days from any invoice date) no sales/services must be supplied without the authorisation of the Credit Manager.
4. The customer’s ability to pay and status has been checked within the past six months:
Orders can be taken for further sales when the customer’s current limit has been reached if the customer’s ability to pay has been checked within six months of the new order date.
Checking the ability and status of the customer involves a bank reference for a sum of not less than two months orders, and a current credit report. All customer details (company name, address, telephone/fax, contact, bank and accountant) must be confirmed; with all amendments updated on our system. The account must then be authorized using the Underwriting Credit Authorities system.
PROCEDURE
5. Collection performance and targets to be maintained within acceptable standards
Every day that an amount remains overdue (after the allowance of a 30-day credit period) we loose profit through having to;
- administer the overdue invoice,
- raising and sending letters,
- telephone/fax calls,
- paying suppliers,
- using overdraft.
With net profitability at 10% it will take 36 days to erode 25% of net profit and *146 days to totally erode net profit. These figures are based on our:
*Average sale of £400,
Annual cost of administration of overdue accounts is 25% of ‘average sale’, being £100,
365 (days in year) divided by £100 (annual cost) = 3.65 multiply by 40 (10% of £400) = 146 days.
We currently run at an acceptable level of 45 days from invoice to payment (see section 1. above): this figure also represents our cash collection target.
Our current annual credit turnover of £600,000 gives us a monthly sales figure of £50,000 (600,000/50,000), and a daily figure of £1,644 (600,000/365). With 45 days being our average overdue period and our average daily sale being £1,644, our outstanding credit balance figure at any one time is £73,980 (45 x £1,644). The figure of £73,980, or less, represents our monthly target.
Those responsible for achieving targets must be measured to ensure their performance is effective and efficient, and that they maintain acceptable recovery levels. Our present compliment of credit control staff is two; being a sufficient number to achieve necessary performance levels.
Each controller has approximately 50% of the sales ledger to maintain, being;
£36,990 in balances (£73,980 total outstanding, divided by 2)
and,
92 accounts/customers (£73,980 divided by average outstanding per customer £400 = 184 divided by 2).
6. Overdue Collection and Reporting
Every Monday a.m. the Credit Manager will determine cash targets and workload for each Credit Controller. Every Friday p.m. the Credit Manager will debrief the Credit Controllers and compile a report of the weeks activities for the Accounts Director.
The Credit Manager will monitor the Credit Controllers performance by viewing the daily log (completed by the credit controller) of payments received within their specific sales ledger portfolio. The content of the log should include:
- The name of the debtor,
- The account number,
- Payment amount’
- Original due date.
7. Payment Posting
All payments are to be handed to the Credit Controller with remittance advice and accompanying correspondence by 10 a.m. each day for customer identification and immediate posting to the identified account. All unidentified payments are to be posted to the ‘suspense account’ and a standard letter sent to any contact address within the letter.
8. Query Control
All queries must be originated through the relevant Credit Controller. The controller will then log a ‘response by date’ and the name of the person dealing with the query and a brief outline of the query.
A memo, to the person dealing, must be raised for queries that are not responded to by the agreed date, with a time limit not exceeding 7 days. The Credit Manager must look into all queries outstanding after a 7-day memo and then memo the Accounts Director if not immediately resolved.
- The authority to write off query amounts:
- Credit Manager up to £20
- Amounts over £20 require a formal write off.
9. Debt Recovery and Bad Debt
The Credit Manager is responsible for the early identification and actioning of accounts that are considered as ‘debt recovery’ i.e. accounts that require collection agency and/or litigation action. The Credit Manager has authority to incur cumulative debt recovery/litigation fees to the lower of 10% of the outstanding amount or to a maximum of £500 for each case. The authorisation of the Accounts Director is required for cumulative fees over £500.
10. Bad Debt Write Off
The Credit Manager is responsible for the early identification of bad debt write off.
The bad debt write off authorisation per account:
Credit Manager £1,000
Accounts Director £2,500
Managing Director over £2,500
11. Reporting Structure
We use a hierarchical Reporting Structure to authorise credit sales as follows:
Up to £5,000 Credit Manager
Up to £10,000 Accounts Director
Over £10,000 Managing Director
In the absence of the Managing Director, two directors must authorise credit sales in excess of £10,000 but no more than £20,000.
12. Credit Management Reporting
The Credit Manager will report to the Accounts Director at the end of each monthly period. The report is required to cover:
A report of key issues within policy, procedure, systems, staff (credit, sales and administration) and management.
An overview of the relevant months activity, a month on month and year on year analysis of all key areas, and to include all of the following:
1. Amount due, number of accounts and percentages not yet due,
2. Amount due, number of accounts and percentages between 1 – 30 days overdue,
3. Amount due, number of accounts and percentages between 31 – 60 days overdue,
4. Amount due, number of accounts and percentages between 61 – 90 days overdue,
5. Amount due, number of accounts and percentages over 90 days overdue,
6. Amount due, number of accounts and percentages with debt agencies and/or solicitors,
7. Amount due, number of accounts and percentages with non-arrears related queries, broken down into query type, sales area/person, product/service.
The Credit Management report will form part of the companies monthly management accounts for discussion at board level.
This Credit Policy is subject to continual change. All updates will be notified by the issue of an updated Credit Policy document. It is the responsibility of individual department heads to ensure the use of up to date copies.