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Ineffective accounts receivable management and solution in case of hai son construction material company limited

UNIVERSITY OF ECONOMICS HO CHI MINH CITY
International School of Business
-------------------------

NGUYEN HUU CANH

INEFFECTIVE ACCOUNTS RECEIVABLE
MANAGEMENT AND SOLUTION IN CASE
OF HAI SON CONSTRUCTION MATERIAL
COMPANY LIMITED
MASTER OF BUSINESS (HONOURS)

Ho Chi Minh City – Year 2018


UNIVERSITY OF ECONOMICS HO CHI MINH CITY
International School of Business
-------------------------

NGUYEN HUU CANH


INEFFECTIVE ACCOUNTS RECEIVABLE
MANAGEMENT
AND SOLUTION IN CASE OF HAI SON
CONSTRUCTION MATERIAL COMPANY
LIMITED
ID: 22140005
MASTER OF BUSINESS AMINISTRATION
SUPERVISOR: PHAM PHU QUOC

Ho Chi Minh City – Year 2018


1

EXECUTIVE SUMMARY
Working capital management is very important for a company, especially for
manufacturing, trading and distribution companies, because it has a significant
impact on the profitability and liquidity of the company (1). As one of the three main
elements of working capital, receivables also have an impact on the performance of
the business. This is the most important source of external financing of enterprises
(2) and also a source of support for buyers (3). As a result, managers can use accounts
receivable as an instrument to increase the revenue, profitability, and customer
relationship. However, the amount of receivables that are too high can lead to many
downsizing effects on the company (4). So, keeping receivables in optimum amounts
is an important financial issue.
Management of accounts receivable is also management of trade credit (8).
Therefore, a specific and efficient trade credit policy is an important factor to improve
the management of accounts receivable and working capital of the company.
The thesis is about Hai Son's inefficient account receivable management, in which
specification of the ineffective trade credit policy. This leads to inefficient cash
conversion cycles and working capital management has a negative impact on the
profits. Research will show the factors that make this inefficiency as well as its
financial results. After considering all the aspects that lead to the problem, the thesis
then aims to find and advise on possible alternatives and practices to improve the
company's management of receivables.


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ACKNOWLEDGEMENT


This thesis becomes a reality with the support and assistance of many individuals. I
want to send my sincere thanks to all of them. First of all, I would like to express my
gratitude and sincerely thank my adviser, Dr. Pham Phu Quoc for his guidance,
imparting knowledge and expertise to my studies. Special thanks to the members of
Hai Son Company for cooperation, support and provide necessary information
related to this thesis. My thanks and appreciation also came to my teammates who
have collaborated with me to complete the thesis and my classmates who are ready
to help me with their abilities. Last but not least, thanks for my family who always
support and encourage me to complete this thesis.


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TABLE OF CONTENT

EXECUTIVE SUMMARY ........................................................................................... 1
ACKNOWLEDGEMENT ............................................................................................ 2
LIST OF FIGURES ......................................................................................................... 4
LIST OF TABLES .......................................................................................................... 4
1. INTRODUCTION .............................................................................................. 5
1.1 The information of Hai Son Construction Material Company Limited .............. 5
1.2 The mission and vision of Hai Son Co., Ltd ....................................................... 6
2. PROBLEM CONTEXT ..................................................................................... 6
2.1 The current financial status of Hai Son ............................................................... 6
2.1.1 The fall in revenue and net profit after tax in recent years .......................... 6
2.1.2 The rising of days sales outstanding ............................................................. 8
2.2 Trade credit policy of Hai Son .......................................................................... 10
2.3 Current status of Hai Son in comparison with key competitors ........................ 11
3. PROBLEM IDENTIFICATION..................................................................... 14
3.1 Potential problems ............................................................................................ 14
3.1.1 Ineffective trade credit policy ..................................................................... 15
3.1.2 The inherent conflict between Accounting and Sales Department ............. 16
3.1.3 The impact of economic situation ............................................................... 17
3.2 Problem validation............................................................................................. 18
3.2.1 Eliminating conflict and economic condition as the main problem ........... 18
3.2.2 Illuminating the lenient trade credit policy as the main problem ............... 18
3.2.3 Causes and effect diagram .......................................................................... 19
4. CAUSE VALIDATION ................................................................................... 20
4.1 The trade credit policy without discounts for early payment and ineffective
collection policy ...................................................................................................... 20
4.2 The trade credit policy without credit standards ............................................... 20
5. SOLUTION ....................................................................................................... 21
5.1 Improving trade credit policy with cash discount and effective debts
collection ................................................................................................................. 21
5.2 Request bank guarantee to overcome the weakness of credit standards ......... 24


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5.3 Selection of Solution ........................................................................................ 25
6. ORGANIZATION OF ACTIONS .................................................................. 26
7. CONCLUSION ................................................................................................. 29
8. SUPPORTING INFORMATION .......................................................................
REFERENCES
APPENDIX
LIST OF FIGURES
Figure 2.1. The decreasing in revenues and accounts receivable
Figure 2.2. ROA of Hai Son, Viet Trung
Figure 2.3. ROE of Hai Son, Viet Trung
Figure 2.4. Receivable turnover ratio of Hai Son, Viet Trung
Figure 2.5. Days sales outstanding of Hai Son, Viet Trung
Figure 2.6 Aging of Hai Son’s accounts receivable in 2017
Figure 2.7. Cause and effective tree
Figure 6.1 Cash conversion cycle
Figure 6.2. Consequences of high accounts receivable
LIST OF TABLES
Table 2.1. Revenue and net profit after tax of Hai Son
Table 2.2. ROA and ROE of Hai Son
Table 2.3. Percentage of accounts receivable on credit sales
Table 2.4. Receivables’ ratios of Hai Son


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1. INTRODUCTION
1.1 The information of Hai Son Construction Material Limited Company
Hai Son Construction Material Company Limited was established in 2007.
Currently, Hai Son is the exclusive distributor for INSEE Viet Nam and distributing
materials for construction projects in Ben Tre province.
Hai Son has step by step built a strong foothold for its brand in the market of
construction for supplying the current materials. Despite many difficulties and
challenges, the strength and experience of Hai Son have been confirmed so as to try to
achieve the stable growth by undertaking the extraordinary breakthrough with main
purpose of building a sustainable brand in order to always meet and satisfy all
customers’ demands.
Some basic information about Hai Son:
Company Name: Hai Son Construction Material Co., Ltd
Office: Nghia Huan Hamlet, My Thanh Commune, Giong Trom District, Ben Tre
Province
Capital: 4 billion dongs.
Organizational structure:

Director

Accounting
Department

Sales
Department

STORES

Warehouse
Department


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1.2 The mission and vision of Hai Son
The world is changing to the time. To thrive as business in the future, Hai Son have
look ahead, understand the trends and prepare for what is to come. Hai son must get
ready for tomorrow today. The vision of Hai Son is all about. It creates a destination of
business and lead Hai Son to face with the next challenges. The mission of Hai Son is
permanent such as creating the value and inspire moments of happiness and optimism.
2. PROBLEM CONTEXT
Financial statements are the reports about the financial results, financial condition
and cash flows. Ross, Westerfield and Jordan (5) stated that financial statements are the
snapshot of organizing and summarizing the assets and equity of a company, reflecting
the results of business in one year. Skim through the financial statements from 2014 to
2017 of Hai Son, there are some issues which is worthy to concern:
At first sight, Income statements presented the sharp fall in sales and net profit after
tax from 2014 to 2017, even that the losses occurred in 2 years ago. The fall in sales also
contributed to the decreasing of accounts receivable on Balance sheet.
Going to deeper analysis, the increasing with high speed from 2014 to 2017 of days
sales outstanding ratio were disturbing in accounts receivable management.
The following detail analysis will illustrate the problems which Hai Son is facing.
2.1 The current financial status of Hai Son
2.1.1 The fall in revenue and net profit after tax in recent years
According to Income statement from 2014 to 2017, the most noticeable is the
significant decreasing in total revenue and net profit after tax during four years period.
The company was even loss in 2016 and 2017 which illustrated at Table 2.1.


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Unit: Dongs

Revenue
Net profit after tax

2017
26,441,898,554

2016
34,229,467,009

2015
50,348,740,177

2014
83,873,256,671

(252,311,629)

(45,378,148)

26,388,869

1,185,546,509

(Hai Son’s Income statement, 2014-2017)
Table 2.1. Revenue and net profit after tax of Hai Son
The speed of decreasing in net profit after tax was too high. If net profit after tax was
1.185 million dongs in 2014, net profit after tax was just negative number in 2017.
Addition, during three years from 2015 to 2017, return of assets (ROA) and return of
equity (ROE) of the company tend to decrease significantly. According to Table 2.2, if
ROA and ROE were rather high in 2014 (2.69% and 38.8%), both ratios reduced sharply
in 2017 (-0.88% and -7.18%). The main reason was the loss.
Unit: Dongs
2017
Net profit after
tax
Assets
Equity
ROA
ROE

2016

2015

2014

(252,311,629)

(45,378,148)

26,388,869

1,185,546,509

28,716,257,635
3,512,878,725
-0.88%
-7.18%

31,496,161,227
3,765,190,153
-0.14%
-1.21%

36,852,678,129
3,811,935,578
0.07%
0.69%

44,022,502,581
3,055,469,522
2.69%
38.80%

(Financial statements of Hai Son from 2014 to 2017)
Table 2.2. ROA and ROE of Hai Son
To find out what happened, an interview with the individuals concerned is conducted.
Accordingly, the director of Hai Son is Mrs. Hanh who understanding the problems that
the company is facing. In conversation, she state that
The major cause of the decrease in revenue is the change of business orientation. Before
2015, our revenues were very high. However, since 2015, Hai Son oriented to become a
specialized project distributor because of highly competitive market in building material
distribution. Thus, Hai Son reduces supplying for 2nd level agencies to concentrate on
construction projects especially government construction projects. That explains for the fall


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in the revenue in the next 2 years. Another reason, I think, is the highly sovereign debts. So,
the government restricts to build or repair the public construction. Therefore, the results of
Hai Son’s business is negative in recent years.

Mr. Hai who working in Sale department for 7 years continued that
In recent year, the massive competition of other distributors have caused problems for the
introduction of products and sale. Many new distributors appeared and offered lower price
to agents. It is reason which forces Hai Son to change orient business and aims to supplying
building material to construction projects.

Basically, the fall in revenue and profit were starting from 2015 when Hai Son changed
orientable business and aims to supplying goods to construction projects.
2.1.2 The rising of day sales outstanding
After studying the reasons that caused to the fall in revenue and profit, a further
consideration of sale activities will show the details of problems.
Based upon balance sheet, it can be seen that the amount of receivables fell
significantly during 2014 to 2017. This reduction was not only due to the management
of accounts receivable but also the reduction of revenue. The speed of decreasing in
accounts receivable was even lower than that of revenues indicating that credit terms
seem more loosely. During 4 years, revenues decreased more than 68% while accounts
receivable decreased by less than half. Figure 2.1 will show the detail of the speed of
decreasing in revenues and accounts receivables.
% decrasing in revenues

% decrasing in accounts receivable

150,00%
100,00%
50,00%
0,00%
-50,00%
-100,00%

2014

2015

2016

2017

Figure 2.1 The decreasing in revenues and accounts receivable


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In theory, Subramanyam (6) indicated that there are many factors which impact to
the amount of accounts receivable, but the amount of credit sales has directly impacted
to this account. To figure out, credit sales and the percentage of accounts receivable on
credit sales are shown in the table 2.3 below:
Unit: Dongs
2017
Credit sales

2016

15,691,555,213

20,840,975,616

47.56%

42.83%

% AR/credit sales

2015

2014

29,150,598,951 47,074,803,226
36.68%

23.16%

(Hai Son’s Income statement, 2014-2017)
Table 2.3 Percentage of accounts receivable on credit sales
According to Table 2.3, though credit sales decline sharply from 2014 to 2017, the
ratio of accounts receivable to total credit increased from 23.16% to 47.56% in 2017.
So, the decreasing in accounts receivable was also slower than the decreasing in credit
sales.
Thus, it is possible that the collection of accounts receivables is not good leading to the
low speed of decreasing in accounts receivable.
The next financial ratios related to accounts receivable will presented the number
of days that Hai Son could collect the receivables from the customers. The detail is
shown by Table 2.4:

Receivable turnover ratio
Day sales outstanding (days)

2017
2.10
174

2016
2.33
156

2015
2.73
134

2014
4.32
85

Table 2.4. Receivables’ ratios of Hai Son
According to Table 2.4, receivable turnover ratio fell significantly from 4.32 to 2.1
from 2014 to 2017 and day sales outstanding rose from 85 days to 174 days in 2017.


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In theory, Subramanyam (6) told that the significance of receivable turnover ratio
is the number of time which are accounts receivable collected in the year and the
efficiency using working capital of a company. The increasing in day sales outstanding
ratio showed that the company managed accounts receivable ineffectively and took more
time to transfer accounts receivable into cash. This is a sign that the company has
difficulty to collect the credit sales.
2.2 Trade credit policy of Hai Son
Through analysis of the numbers on financial statements and financial ratio related
to account receivables, initially, Hai Son has difficulty in accounts receivable
management. Therefore, researching trade credit policy of Hai Son to find out the issues
is important.
Trade credit is considered an investment in a customer. According to Ferris (7),
trade credit is a loan that tied in both timing and value to the exchange of goods. When
trade credit is granted, an accounts receivable is created. Deloof and Jeger (8) indicated
that accounts receivable can be used as an instrument to enhance revenues because the
customers can evaluate the product quality before making the payment. Management of
accounts receivable is also management of trade credit. The company has to establish
procedures for extending credit and collecting. As recommended by Brigham and
Ehrhardt (9), a trade credit policies should include the credit standards, credit period,
discounts and collection policy. Since the initial operation, Hai Son has set up the trade
credit policy and applied to the present.
Through directly interview with Mrs. Hanh about trade credit policy, she said that
We mainly set up credit limit on the basis of cost estimate of construction project. The credit
period is 45 days for all customers and the cash discount for immediate payment is 2%.
There is no discount for early payment on credit sales. The customers have to pay all the


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value of sales contract on time. We will stop to deliver goods to the customer when their
debts is greater than credit limit or who do not pay their debts on time.

Thus, trade credit policy of Hai Son includes the following component:
 Terms of sale: Hai Son grants different the amount of credit sales for each
customer. The credit period is 45 days for all customers and offer 2% cash discount for
immediate payment of purchasing. There is no cash discount for early payment of credit
sales. After one day, customers have to pay all the value of contract.
 Credit analysis: There are no procedures to evaluate the probability that
customers will not pay. Hai Son bases on the cost estimate of construction project which
is supplied by customers in granting credit. Hai Son will stop supplying goods to
customers who does not make the payment on time and occur overdue debts.
 Collection policy: The sale contract is attached the penalty interest rate for late
payment. If the customers are unwilling to pay and postpone the payment in longtime,
Hai Son will take them to court. When an account receivable is due, the accountant often
contacts with the customers to remind or send request payment letter to customers.
Hence, in general, trade credit policy of Hai Son is lack of discount for early
payment and specific credit standards to evaluate the probability of unpaid customers.
2.3 Current status of Hai Son in comparison with key competitors
Compared with Viet Trung Building Material Company Limited, also a
distributor of a building materials in the same area, the data also show the negative
results of Hai Son. During 3 years from 2015 to 2017, the rate of return of Viet Trung
increased rather high. It is easy to see that business performance results has declined
over the past four years. The pictures below will show details.


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ROA
8,00%
7,00%
6,00%
5,00%
4,00%
3,00%
2,00%
1,00%
0,00%
-1,00%

2014

2015

2016

2017

-2,00%
Hai Son

Viet Trung

Figure 2.2. Return on assets of Hai Son, Viet Trung

ROE
50,00%
40,00%
30,00%
20,00%
10,00%
0,00%
2014

2015

2016

2017

-10,00%
Hai Son

Viet Trung

Figure 2.3. Return on equity of Hai Son, Viet Trung
Adoption of financial statements, it can be seen that the amount of receivables
decreased significantly in the period 2014 to 2017. However, this reduction was not due
to the efficient management of accounts receivable but also the reduction of revenue.
The rate of reduction of accounts receivable is even lower than that of sales indicating
that credit terms seem more tolerant. In 4 years, sales decreased more than 68% while
accounts receivable decreased by less than half.


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As such, the company is incurring more and more overdue debts and this is also the
cost of holding receivables for a longer period of time. Financial indicators relating to
receivables of Hai Son are compared with Viet Trung as follows:

2014

2015
Hai
Son

2016

2017

Viet Trung

Figure 2.4. Receivable turnover ratio of Hai Son, Viet Trung

2014

2015
Hai
Son

2016

2017

Viet Trung

Figure 2.5. Days sales outstanding of Hai Son, Viet Trung
Compared with Viet Trung, the ratio of Hai Son is the worst. There is a significant
gap between the sales of Hai Son and Viet Trung. This is a sign of ineffective account
management. That means the company is having trouble collecting account receivable
and customers hold large amounts of working capital in long time. The liquidity of


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accounts receivable of Hai Son and the speed of transfer from accounts receivable into
cash is quite low.
Next, the evaluation of aging of account receivables is going to show more detail
of current accounts receivable management situation. Details of aging of accounts
receivable in 2017 are as follows:

6%

8%

0 - 45 days

17%

45 days - 3 month

11%

3 months - 6 months

23%

6 months - 12 months
1 year - 2 years

35%

Over 2 years

Figure 2.6. Aging of Hai Son’s accounts receivable in 2017
At the end of 2017, the majority of accounts receivable with maturity from 3 to 6
months are overdue from 1.5-4.5 months. In addition, 8% of the debt is over 2 years and
the company considers it irrecoverable. In fact, the company offers 45 days of credit
sales to all customers, the payments of accounts receivable more than 45 days are
overdue. In 2017, there are only 17% of accounts receivable on time and overdue debt
accounted for 83% of accounts receivable. It is shown that the management of accounts
receivables of Hai Son is not effective.
3. PROBLEM IDENTIFICATION
Through the symptoms of accounts receivable according to the above analysis,
combined with interviews related persons, there are some issues that Hai Son is facing.
3.1 Potential Problem


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3.1.1 Ineffective trade credit policy
One of the serious reasons to manage ineffective receivables in Hai Son comes
from the trade credit policy. Cheng and Pike (3) stated that trade credit is considered as
an alternative to providing interest-free loans to customers when compared to borrowing
money from a financial institution to make purchases. The fall in accounts receivable
was lower than sales indicated that trade credit policy is too lenient. The advantages of
lenient trade credit policy can attract customers and increase sales because of high
accounts receivable. However, according to Garcia-Ternuel and Martinez-Solano (10),
the large amount of trade credit could cause the higher costs and risk of overdue debts.
As such, the company does not issue specific credit standards or evaluate the
financial situation of customers when creating sales. Hai Son only stops to supply goods
to customers when their debts are overdue. Hai Son has not set up the credit standards
for assessing the financial situation of customers but depending on the cost estimation
of the construction projects. This loose credit policy can attract customers but also
generating overdue debt of weak financial customers. According to trade credit policy
of Hai Son, the customers would have 45 days to pay whole the value of purchasing
contract. Hai Son is applying a fix credit period. Cheng & Pike (3) said that the length
of credit period is equivalent to the product price, it means that the price of goods would
reduce equivalent to the time that the customers hold their payment. So, the strong
financial customers often wait for the last day of credit period to make the payment.
Brigham and Ehrhardt (9) suggested that the discount could be a price deduction which
would attracts and encourages the customers to pay early. Hai Son does not apply the
discount, it means that there is no encouragement for customers to make the early
payment and cause the postponement in payment.


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Furthermore, there is no effective collection policy of Hai Son’s credit policy. The
current debts collection policy are not enough pressure to force the customer to make
the payment. Though, the sale contracts has presented the penalty interest rate for
overdue payment and take unpaid customers in court but Hai Son seldom uses this
method. The preferential collection policy encourage customers to postpone their
payments which increasing day sales outstanding.
3.1.2 The inherent conflict between Accounting and Sales Department
In general, the conflicts between the Sales department and the Accounting
department are also the reason for ineffective accounts receivable management.
Through the interview, Ms. Thanh who working in Hai Son as chief accountant for 9
years said that
The salesman did not concern the qualification and effective business of customers when
offered sale contracts. They just aimed to increasing revenues. As the result, the Accounting
department has to face with the large amount of bad debts. In my opinion, it is really the
real conflict between Accounting and Sale departments.

And, Mr. Hai who is salesman and currently works in Hai Son told that
In reality, the primary income of salesman bases on commission and bonus related to
revenues. Therefore, the salesman usually try to sell as many goods as possible, salesman
seldom concerns about the paying capacity of customers on credit sales. Beside, revenues
are decreasing and difficult to sell goods in recent years. So, we all do everything to attract
the customers and increase the revenues.

Theoretically, Burez and Vandenpoel (11) told that the Finance and Accounting
department consider the credibility of customers as the most important condition when
offering credit contracts. They do not want the working capital bound in overdue debts
or lose money for irrecoverable debts. In contrast, the sales department wants the total
sales as high as possible whether the customer is trustworthy or not.


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In Hai Son, this problem has occurred in the last four years. Moreover, total sales of the
company decreased significantly, leading to increase the pressure for Sales department.
To achieve sales target, salesman try to sign more sale contracts and sell more goods
without the careful consideration of customer status or credibility. Therefore, the
Accounting department has to deal with the high level of overdue debts and bad debts.
Burez & Vandenpoel (11) also indicated that the Sales department must comply
with trade credit policy when looking for the customers. However, because of the
inefficient trade credit policy, salesman is primarily concentrates on increasing sales and
achieving their target. Therefore, the Sales department can meet their target while the
risk and costs are also increasing, the amount of accounts receivable has deteriorated in
this period.
3.1.3 The impact of economic situation
García-Teruel and Martínez-Solano (10) indicated that the economic situation is
also impacted to the numbers of accounts receivable. The cash flows from operating
activities declined because of deteriorating economic conditions. The financial position
of the debtors can be change after granting the trade credit. As a result, some customer
have no afford to pay their debts on time and increasing the day of sales outstanding
ratio. In addition, there are more risks in selling to construction projects because the
contractors usually keep their cash longer because their cash flows depend on the market
and the economic condition.
Mrs. Hanh told that
Due to competition from other distributors, the distribution of goods to secondary agents
has become more difficult than before. Therefore, from 2015, Hai Son promotes the supply
of building materials for construction projects. It explains for the decreasing in sales and
profits in recent years.

Ms. Thanh shared in addition


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Since Hai Son reduced supplying goods for second level agencies, some customers are not
willing to make the payment for the previous sale contracts. According to my investigation,
the reason is that these customers have not sold all of the goods yet so they could not pay
all of debts. The large amount of accounts receivable became doubtful debts.

The reasons above also contribute into the decreasing of revenue and profit as well as
increasing the overdue debts.
3.2 Problem validation
The current financial status reflected the business difficulty of Hai Son. Therefore,
validation of the main problem among three potential problems above is an important
foundation to have appropriate solutions for positive changes.
3.2.1 Eliminating conflict and economic condition as the main problem
The conflict between Accounting and Sales Department occurred because Hai Son
does not set up the specify credit analysis procedures. There are not standards to classify
customers which are basis for Sale department in finding out the appropriate customers.
Burez & Vandenpoel (11) indicated that the inherent conflict between sales and
accounting department could be reduce if there are appropriate standards to evaluate the
customers and sales department will target on creditworthy customers.
Therefore, the conflict will be solved if the company can improving the trade
policy. Addition, the economic situation could not be controlled by the company.
Therefore, the main problem for the accounts receivable management is ineffective trade
credit policy.
3.2.2 Illuminating the ineffective trade credit policy as the main problem
The main problem for the ineffective of accounts receivable management comes
from ineffective trade credit policy. Gupta and Gupta (9) stated that trade credit policy
is a guide for the firm granting or rejecting credit to customers. It directly impacts to the
accounts receivable management. Thus, an ineffective trade credit policy could be


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caused the wrong decision in granting credit. Because of ineffective trade credit policy,
there are unclear regulations for all compliance departments in granting and collecting
credit sales. This is also the cause of the conflict between departments.
3.2.3 Cause and effect diagram
From the above analyzing, together with theories and literatures and interview results,
the cause and effect tree will be developed as follow:
Ineffective trade
credit policy

No discounts
for early
payments

Ineffective
collection
policy

The bad debts
losses

No credit
standards
Ineffective
accounts
receivable
management

Sale
target
Accounting
principles

The decreasing
of profit
The conflict
between
Accounting and
Sales
Department

The economic
situation

Figure 2.7. Cause and effective diagram

Three factors caused ineffective accounts receivables management include the
ineffective trade credit policy, the conflict between accounting and sales department and


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the economic situation. Ineffective accounts receivable lead to the bad debts losses and
the decreasing in profit.
4. CAUSE VALIDATION
4.1 The trade credit policy without discounts for early payments and ineffective
collection policy
As a consequence of lenient trade credit policy, the number of debtors and
amount of accounts receivable rise up. Therefore, granting credit always remain the risks
and costs for debts collection efforts. So, the early payment from customers will be a
positive impact to working capital and distribute to reducing cost of capital which
financed accounts receivable and risk of default in payment.
According to Brigham and Ehrhardt (9), “the cash discount is the price deduction
given to customers for the early payment. Customers will get reducing in price when
they make the payment within the stipulated period”. Hai Son does not apply the
discount, it means that there is no encouragement for customers to make the early
payment and cause the postponement in payment. Thus, trade credit policy will not work
well if it does not regulate the specific cash discount for early payment. The customers
will wait for maturity date to pay their debts.
Besides that, ineffective collection policy is not enough pressure to obligate the
customer for payment. The liberal collection policy promote customers to delay the
payment and distribute to the rise in day sales outstanding.
4.2 The trade credit policy without credit standards
The loose credit policy with no credit standards to evaluate financial status easily
leads to supply goods for weak financial customers and occur overdue debts even bad
debts. Hai Son grants credit for the customers on the basis of cost estimation without
considering criteria about financial status and effectiveness of business performance.


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5. SOLUTIONS
5.1 Improving trade credit policy with cash discount and effective debts
collection
In the case of Hai Son, the core problem in accounts receivable management comes
from the ineffective trade credit policy. For that reason, it is necessary to improving the
credit policy. Ojeka (14) indicated that there are some reasons for a company to have a
specific and efficient trade credit policy.
Firstly, it can reduce the costs of bad debt and improve the cash flow of the company.
Secondly, an effective trade credit policy will reducing the inherent conflict between
sales and accounting department. This can also solve the potential problem of Hai Son.
Through setting up clear policy, all the departments of the company have to be
compliance and there would not be any bias on offering trade credit to the customers.
Finally, it can bring the consistency in approaching customers and making proper
decision, on the basis of credit standards. It will create the fairness between the
customers as well as improving the relationship with customers. Hence, it can be true
view that composing a specific trade credit policy is necessary for Hai Son. It is an
opportunity to improve accounts receivable management and complete the entire
operation of the company.
In specification, Brigham and Ehrhardt (9) indicated that an effective trade credit
policy should include the credit standards, the credit period, cash discount and the
collection policy.
As a results, Hai Son has to improve trade credit policy especially concentration on
the following contents:


22

Issuing the credit standards: The credit standards is a scale for company to
categorize their customers to offer the credit limit and the credit term. The credit limit
granting to customers directly relate to the amount of investment in receivables.
A generous credit standards can attract more customers and rise up revenue. However,
the investment in accounts receivable will be expanded along with many costs.
Contrary, the strictly credit standards can reduce the investment in accounts receivable,
prevent company from bad debts losses and costs. But it is also results of decreasing
sales and profits. Therefore, composing specific credit standards is necessary for Hai
Son. It helps Hai Son to classify customer and set up the appropriate credit limit. Mian
and Smith (15) told that granting trade credit needs to depend on the creditworthiness of
the customer and its financial capacity.
Offering cash discount: The credit term should include discount for early payments.
Brennan, Maksimovic and Zechner (16) indicated that there are two methods for Hai
Son to distinguish the selling price, including:
First, offering the credit period.
Second, setting up the discount in payment which can be seen as a price reduction.
Applying discount for early payment can encourage the customers to pay their debts
earlier than waiting for expire of credit period. It is benefit for customers on payment
and the seller in collecting debts. Brigham and Ehrhardt (9) also said that the discount
not only attracts customers with price deduction but also distribution of reducing in day
sales outstanding. In order to get discount, the customers have to meet requirement in
the discount term. Hence, instead of trade credit without discount for early payment, Hai
Son should offer discount rate for early payment to the buyers. The discount policy will
attract customers and motivate the speed of debts collection.


23

In addition, the flexible credit period can make the difference and appropriate product
price for each type of customers. In current trade credit policy, Hai Son only offer a
period of 45 days for all customers. It is not flexible and efficient. Therefore, Hai Son
should offer the period based on the size of the purchase contract.
Improving collection policy: In reality, calling and sending letters are not enough
pressure to request the customers for payment on time. Therefore, Hai Son should
concentrate on collection policy. Emphasizing promptness and systematization in
collection policy will have a psychological effect on the customers and make them
remember their obligation. Other legal actions should be used when there are customer
who postpones the payment on too long time. However, modification of policy also
affects to the company. Accordingly, Molina and Preve (17) concluded that sales and
relationship of customers will be effect, the sale could be decreased and relationship of
customers could be harm.
Inclusion, there are advantages and disadvantage in improving trade credit policy of Hai
Son:
Advantages:
 Effective trade credit policy will decrease the level of accounts receivable along
with decreasing in related costs.
 Minimizing the risk of bad debts losses.
 Improving the inherent conflict between sales and accounting department and
preventing from the financial weakness customers.
 On the basis of specific credit standards, it brings the consistency in approaching
customer and distributing on making proper decision.


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