“Effective credit policy of the enterprise”
Why is there a need for an effective credit policy?
Due to the high level of competition in the food market, the situation is such that, in order to increase the attractiveness of their products, enterprises are forced to lend to wholesale operators, and those, in turn, are retail stores. As a result, a significant part of the company’s current assets is always concentrated in accounts receivable for work, goods, and services.
Enterprises have to increase accounts receivable in order to achieve their economic goals, which can be expressed using the absolute financial indicator – “Net profit” and the relative indicator – ROCE (return on capital employed – return on working capital). Both indicators characterize the effectiveness of the enterprise, which is expressed in the fact that the organization “does what it needs to do properly”.
Consequently, lending to buyers of goods, on the one hand, leads to an increase in revenue from sales and gross profit, and, on the other hand, to an increase in enterprise expenses associated with attracting short-term financial resources and the emergence of doubtful and hopeless receivables. In this situation, it is necessary to act in accordance with the economic goals of the business, which raises the issue of managing receivables and implementing an effective credit policy.
Credit policy is understood as an instrument for achieving the strategic goals of an enterprise related to net profit and ROCE by achieving current goals for sales revenue, gross profit and expenses associated with lending.
Definition: A credit policy that ensures the achievement of sales revenue goals and maximizes the profits associated with customer lending is called an effective credit policy.
If the achievement of sales revenue goals is related to the effectiveness of credit policy, then the achievement of goals for net profit and ROCE should be associated with the effectiveness of credit policy, as net profit is the difference between total income and total expenses, which credit policy affects at the same time. In this regard, the criterion for the effectiveness of credit policy is to maximize the effect of investing in receivables.
Intuitive Credit Policy
As a rule, managers – general directors, business owners – do not have a clear approach that clearly describes the priorities between the various factors that they can manage to achieve their goals. Obviously, a lot depends on the ability of the product to meet certain customer needs, on the price level, on the qualifications of business personnel, on the distribution system, on advertising support, on the literacy of building business processes. But, unfortunately, the majority of Ukrainian leaders do not yet have an idea of what to focus on first of all, why, and what can be counted on.
Managers need new competent systemic approaches to company management. One of them is the introduction of an effective credit policy that will help minimize doubtful and bad debts, ensure the required speed of accounts receivable turnover, and achieve the goal of sales revenue and net profit.
“The fact that today the need for improving efficiency and streamlining credit policy exists in almost all enterprises is beyond doubt,” says Igor Chugunov, director of the consulting department of Business Master Corporation. – There are doubts that managers are able to identify their need for the implementation of appropriate technologies. Often insufficient economic literacy prevents them from believing in the effectiveness of the method. ”
Today, many leaders of large companies are often intuitive. However, in the current market situation, when competitors literally “breathe in the back of the head”, it turns out that intuition alone is not enough. To make informed effective decisions, you must have specialized knowledge.
“One of my clients, the owner of a large company, with the development of the sales department, receivables increased from 1 to 15 million UAH. – says Igor Chugunov. – And then he had a logical question: what should be its size? In search of an answer, the term “effective receivables” was introduced and a formula was invented to calculate the effective size of the debit. ”
Definition: Effective accounts receivable is the amount of receivables at which the maximum effect is achieved from investing in receivables, i.e. the maximum value, other things being equal, of the profit associated with investing in receivables.