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    Cash Receivable and Inventory Management

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    Ronald Tres Reyes
    1) Accounts receivable and inventory management are important aspects of financial management for firms. Extending credit to customers and maintaining inventory levels involve balancing costs and sales opportunities. 2) Firms must establish credit policies including standards, terms, collection efforts, and credit lines to evaluate credit applications and manage accounts receivable. The goal is to maximize sales while controlling bad debts and collection costs. 3) Inventory management aims to minimize total inventory costs, including carrying costs and shortage costs, by determining optimal order quantities using models like economic order quantity. Firms classify inventory to prioritize maintaining sufficient levels of important items.

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    Cash Receivable and Inventory Management

    Uploaded by

    Ronald Tres Reyes
    129 views23 pages
    1) Accounts receivable and inventory management are important aspects of financial management for firms. Extending credit to customers and maintaining inventory levels involve balancing costs and sales opportunities. 2) Firms must establish credit policies including standards, terms, collection efforts, and credit lines to evaluate credit applications and manage accounts receivable. The goal is to maximize sales while controlling bad debts and collection costs. 3) Inventory management aims to minimize total inventory costs, including carrying costs and shortage costs, by determining optimal order quantities using models like economic order quantity. Firms classify inventory to prioritize maintaining sufficient levels of important items.

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    Cash Receivable and Inventory Management

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    1) Accounts receivable and inventory management are important aspects of financial management for firms. Extending credit to customers and maintaining inventory levels involve balancing costs and sales opportunities. 2) Firms must establish credit policies including standards, terms, collection efforts, and credit lines to evaluate credit applications and manage accounts receivable. The goal is to maximize sales while controlling bad debts and collection costs. 3) Inventory management aims to minimize total inventory costs, including carrying costs and shortage costs, by determining optimal order quantities using models like economic order quantity. Firms classify inventory to prioritize maintaining sufficient levels of important items.

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    © All Rights Reserved
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    129 views23 pages

    Cash Receivable and Inventory Management

    Uploaded by

    Ronald Tres Reyes
    1) Accounts receivable and inventory management are important aspects of financial management for firms. Extending credit to customers and maintaining inventory levels involve balancing costs and sales opportunities. 2) Firms must establish credit policies including standards, terms, collection efforts, and credit lines to evaluate credit applications and manage accounts receivable. The goal is to maximize sales while controlling bad debts and collection costs. 3) Inventory management aims to minimize total inventory costs, including carrying costs and shortage costs, by determining optimal order quantities using models like economic order quantity. Firms classify inventory to prioritize maintaining sufficient levels of important items.

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    Accounts Receivable and

    Inventory Management

    Eric Lumactod
    Ronald Tres Reyes
    Gemmarie Nierra
    Rhyndyll Faye Bartolaba
    Kaye Arjeli Regalado
    Receivables Management

    • For a firm to grant credit to its customers:


    – Establish Credit and Collection Policies
    – Evaluate Individual Credit Applications
    • Credit Management as a Career
    Accounts Receivable A/R

    • Large investment for most companies


    • Essentially an investment decision
    • Extend credit whenever the marginal returns from extending
    credit exceed the marginal costs
    • Liberal credit policy provides returns in the form of
    increased sales and gross profit, but...
    • Costs
    Cost of funds Costs of credit checking Collection costs Increase in bad debts
    • Trade credit/ Consumer credit
    Credit Policy
    • Credit standards
    – Criteria used to screen credit applications
    – Controls the quality of accounts
    • Credit terms
    – Conditions under which credit extended must be repaid (including
    discounts)
    – Use of Electronic Data Interchange (EDI)
    • Collection efforts
    – Methods employed in an attempt to collect payment on past due
    accounts
    • Credit line
    Credit Standard
    • Quality
    – Time a customer takes to repay
    – Probability a customer will fail to repay
    • Measures of quality
    – Average collection period
    – Bad-debt ratio
    • Balance between too lenient and too strict
    – Too restrictive a policy - lost sales and profits
    – Too lenient a policy - Higher investigation costs, Bad debt losses,
    collection costs, high investment in A/R
    Net Change in Pretax profits Associated With
    Granting Credit
    • Marginal profitability of additional sales =
    Profit contribution ratio x Additional sales
    • Additional investment =
    Additional average daily sales x Average collection period
    • Cost of additional investment in A/R =
    Additional investment in A/R x Pretax required return
    • Additional bad-debt loss =
    Bad- debt loss ratio x Additional sales
    • Additional collection expenses
    • Cost of additional investment in inventory =
    Additional inventory x Pretax required return
    • Net change in pretax profits =
    Marginal returns - Marginal costs
    Credit Terms
    • Credit period
    – Time allowed for payment
    • e.g. 30 days
    • Cash discount
    – Allowed if payment is made within a specific
    period of time
    – Specified as % of the invoiced amount
    – Granted to speed up collection of A/R
    – e.g. 2/10, n/30; 2/10 EOM, n/30
    Credit Terms
    • Seasonal dating (Not a “Social Event”)
    – Offered to retailers on seasonal merchandise
    – Accept delivery well ahead of peak season
    – Pay shortly after peak sales
    • Advantages
    – Promotes sales - goods are on hand
    – Reduces manufacturing inventories
    – Allows producers to smooth
    production and distribution
    – Assists retailers in financing inventory
    Collection Efforts
    • Methods employed to attempt to collect payments
    on past due accounts
    – Letters
    – Telephone Calls
    – Personal Visits
    – Collection Agencies
    – Legal Proceedings
    • Balance between leniency
    and alienating customers
    Collection Efforts
    • Monitoring status
    – Average Collection Period
    – Aging of Accounts Analysis
    • Classifying accounts into categories according to the
    number of days they are past due
    • Changes in the age composition of accounts may
    reveal changes in the quality of A/R
    – Both methods are affected by fluctuations
    in sales
    Analysis of a Change in Credit Policy

    • Increase in the credit period


    – Increase the quantity of goods sold
    – Increase in profits
    – Cost increases from additional investment in
    A/R, collection costs, bad debt costs
    • Liberalization of cash discount
    – Increase in sales & pretax profit contribution
    – Reduction in A/R balance
    • Additional income from alternative investments
    • Decrease in cost of funds
    • Reduction in cash revenue
    Analysis of a Change in Credit Policy

    • Increase in collection effort


    – Reduced sales and pretax profit contribution
    – Increased collection expenses
    – Possible reduced bad-debt losses
    • Size of Credit Line
    – Limits are not as enforced as
    rejection
    – How large a line?
    Evaluation of Credit Applications

    • Gathering information
    – Experience with customer
    – Credit reporting agencies
    – Banks
    – Financial statements submitted by applicant
    – Personal visits
    • How much does the analysis cost ?
    – Begin with the least costly and time consuming source
    – Is it worth it to proceed further?
    Evaluation of Credit Applications

    • Numerical scoring system


    – Multiple Discriminant Analysis (MDA)
    – Expert systems
    • Six C’s of credit
    – Character
    – Capacity
    – Capital
    – Collateral
    – Conditions
    – Country
    Inventory Management

    • Typically, inventory accounts for about four to five


    percent of a firm's assets. In manufacturing firms,
    this could be 20 to 25% of the firm’s assets.
    • Inventory sitting on your shelf earns nothing!
    • In fact, it costs you 20 to 30% of the value of the
    inventory just to keep and maintain it.
    • Therefore, the objective is to minimize the
    investment in inventory without sacrificing
    production requirements
    Types of Inventory

    • Manufacturing firm
    – Raw material – starting point in production
    process
    – Work-in-progress
    – Finished goods – products ready to ship or sell
    • Remember that one firm’s “raw material” may be
    another firm’s “finished goods”
    • Different types of inventory can vary dramatically
    in terms of liquidity
    Inventory Costs
    • Carrying costs – range from 20 – 40% of inventory
    value per year
    – Storage and tracking
    – Insurance and taxes
    – Losses due to obsolescence, deterioration, or theft
    – Opportunity cost of capital
    • Shortage costs
    – Restocking costs
    – Lost sales or lost customers
    • Consider both types of costs and minimize the total
    cost
    Inventory Management - ABC
    • Classify inventory by cost, demand, and need
    • Those items that have substantial shortage
    costs should be maintained in larger quantities
    than those with lower shortage costs
    • Generally maintain smaller quantities of
    expensive items
    • Maintain a substantial supply of less expensive
    basic materials
    Economic Order Quantity Model

    • In order to effectively manage the


    investment in inventory, two problems
    must be dealt with: how much to order and
    how often to order.
    • The economic order quantity (EOQ) model
    attempts to determine the order size that
    will minimize total inventory costs.
    Economic Order Quantity Model

     Determining Optimal Inventory


    – The ordering quantity that minimizes the
    total costs of inventory.
    2 x S x OC
    OQ = CC

    Where:
    OQ = Order Size (order quantity)
    S = Annual Sales Volume
    CC = Carrying Cost per Unit
    OC = Ordering Cost per Order
    Economic Order Quantity Model
    • Determining Optimal Inventory
    – Economic Order Quantity (EOQ)

    Example:
    Eric Lumactod Autos expects to sell 1,560 new
    automobiles in the next year. It currently costs P40 per
    order placed with the manufacturer. Carrying costs
    amount to P50 per auto. How many autos should they
    order each time they place an order?

    2 x S x OC = 2(1560)40
    OQ = CC 50
    = 49.96  50 cars
    Conclusion
    • Receivables Management
    – Credit Policy
    • Credit Standards
    • Credit Terms
    • Collection Efforts
    • Credit Line
    – Evaluation of Credit
    Application
    • Inventory Management
    – Inventory costs
    – EOQ
    The End…

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