EIMPACT OF MANAGEMENT OF ACCOUNTS RECEIVABLE ON PERFORMANC OF BUSINESSES

DECLARATION

Declaration by the Candidate

I declare to the best of my knowledge that this work is original.

It has never been presented for examination in Moi University or

in any other institution of higher learning.

I grant Moi University the right to use this work for the

University’s benefit and to make copies of the work available to

the public on a non-profit basis.

MUSYOKA PHILIP MUSILI

BBM/103/08

Signature …………………………………… Date ……………………………

Declaration by the Supervisor

This work has been submitted for examination with my approval asa University Supervisor.

DR. TARUS

School of business and economics

Department of Accounting and Finance

Moi University

i

Signature ……………………………… Date ………………………….

ACKNOWLEDGEMENTSMy heartfelt gratitude goes to all those who participated

directly and indirectly in the successful completion of my

research project.

I thank my supervisor in particular, Dr. Tarus for his continued

advice and tireless efforts to ensure that my project was well

done without errors and mistakes and ensuring that the research

objectives were met.

I also express my gratitude to my loving parents, Mr Daniel Mwova

and Mrs Agnetta Musyoka for their endless moral and financial

support and for making efforts to ensure that I had all the

resources required for successful completion of my project. I

thank the Almighty God for His love, mercies, care, protection,

provision and granting me a sound mind in my academics.

ii

DEDICATIONI dedicate this research project to all profit oriented

institutions, all institutions of higher learning, researchers

and all organizations which admit the fact that debtors as a

component of working capital management contributes

instrumentally in the overall performance of a business entity.

iii

Abstract The study looks at and aims at finding ways and means of

management of accounts receivables which is a component of

working capital. The research has been necessitated by the

alarming increase in the number of firms which have been wound up

or have faced poor performance while blaming these on the high

number of debts turned bad.

Most of these businesses have complained that the law does not

avail effective means of debt recovery but most of these problems

iv

would be avoided if these businesses took time to manage their

accounts receivables properly and avoid potential bad debt

situations.

Since it has been said that prevention is better than cure, this

study aims at finding principles and practical methods to assist

businesses of all sizes manage better working capital and

especially accounts receivables.

The study is based on data collected by various means such as

questionnaires, interviews and observation. Other sources include

books, newspapers etc.

Observation was during my field attachment.

From the study the following findings were arrived at:

That there is a relationship between management of debtors

and the performance of business.

That most organizations have a big problem when it comes to

management of their debtors.

That the problem of management of debtors is more persistent

in small businesses as compared to large ones.

v

That most businesses do not pay any special attention to

management of their debtors especially small businesses

(micro-enterprises).

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Table of ContentsDECLARATION..........................................................iDR. TARUS...........................................................i

ACKNOWLEDGEMENTS....................................................iiDEDICATION.........................................................iii

Abstract............................................................ivCHAPTER ONE..........................................................2

1.0 INTRODUCTION.....................................................21.1 BACKGROUND INFORMATION..........................................2

1.2 statement of the problem.......................................111.3 objective of the study.........................................12

1.4 The significant of the study...................................12Last but not least it is going to remind financial managers of big companies the importance of taking time to manage their debtors and do so in a professional way. Achieving this level of significant is the goal of this study. If this happens then all the work done and effect put into it would not be in vain............................13

1.5 research questions.............................................131.6 hypothesis of the study........................................13

1.7 limitations of the study.......................................141.8 The assumptions of the study...................................14

1.9 Conceptual framework...........................................15Fig 3 .Conceptual Framework........................................15

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CHAPTER TWO.........................................................172.0 LITERETURE REVIEW...............................................17

2.1 INTRODUCTION...................................................172.2 MANAGEMENT OF ACCOUNTS RECIEVABLE..............................19

2.3 CREDIT POLICY..................................................222.3.1 Goals of credit policy.....................................22

2.3.2 Marketing tool.............................................232.3.3 Maximization of sales versus incremental profit............23

2.3.4 Optimum credit policy......................................252.3.5 Credit policy variables....................................28

2.3.6 Factors to consider in setting credit terms................352.3.7 Survey of credit terms.....................................36

2.3.8 Quantitative Evaluation of Credit Terms....................372.3.9 Collection policy and procedures...........................38

2.5 CREDIT EVALUATION OF INDIVIDUAL ACCOUNTS.......................402.6 MONITERING RECEIVABLES.........................................41

2.6.1 Aging schedule.............................................412.6.2 Average collection period..................................41

2.7 FACTORING......................................................422.8 CREDIT TERMS AND ELECTRONIC DATA INTERCHANGE TRANSACTIONS (EDI)42

3.0 CHAPTER THREE...................................................433.1 RESEARCH DESIGN................................................43

3.2 POPULATION AND SAMPLE..........................................433.3 DATA COLLECTION................................................44

3.3.1 Primary Survey Research....................................443.3.2 0bservation................................................44

3.3.3 Interviews.................................................453.3.4 Questionnaires.............................................45

CHAPTER FOUR........................................................46

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4.0 DATA PRESENTATION ANALYSIS......................................464.1 PRESENTATION AND ANALYSIS OF DATA FROM INTERVIEWS AND OBSERVATION...................................................................464.2 PRESENTATION AND ANALYSIS OF DATA FROM QUESTIONNAIRES..........53

4.2.1 Small scale businesses.....................................594.2.2 Medium scale businesses....................................60

4.2.3 Large scale businesses.....................................614.3 FINDINGS.......................................................62

CHAPTER FIVE........................................................645.0 CONCLUTION AND RECOMMENDATIONS..................................64

5.1 CONCLUTION.....................................................645.2 RECOMMENDATIONS................................................65

6.0 BIBILIOGRAPHY..................................................66APPENDIX............................................................67

Questionnaire......................................................67

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CHAPTER ONE

1.0 INTRODUCTION

1.1 BACKGROUND INFORMATION

Debtors management forms a very important part of working capital

management which as is well known, has got a lot to do with how a

business performs.

Being one of the most significant components of working capital,

accounts receivables in layman’s language simply means what the

company is owed by its business partner’s and which it needs to

make an effort to collect and do so in good time.

The importance of debtors management came into a fore front in

Kenya in 1990’s when the economy paid witness to a large number

of banks, parastatals and other business organizations going

under while some were put into receivership, the reason being

that they could not meet their obligations to their business

partners. The question that was posed then was why couldn’t these

organizations meet their obligation?

x

Many reasons were given but further investigation of some banks

like Trust Bank, KCB, National Bank just to mention but a few

revealed that these organizations were in poor working condition

and were short of cash almost on a daily basis. Further

investigations revealed that managers of these banks among their

many shortcomings had issued loans without regard to any

financial management principles. No investigation had been

carried out on the credit worthiness of these people before loans

of large amounts were issued resulting in stockpile of non-

performing loans. To the surprise of many the only criterion used

to issue loans to these people was their relation to the

politically correct or the fact that they were members of the

‘right party’.

These might have been the politically correct things to do but

financially it proved to be suicidal because when it came to

recovery of these loans all efforts made proved fruitless. All

avenues were exploited but no avail leading most of these

organizations to either wind up e.g., Trust Bank, Kenya National

Assurance while others were only saved when the government

xi

stepped in to rescue them in an effort to save the country’s

image and national pride.

In such organizations the main change made, was with regard to

the criteria or standards of issuing loans especially for those

organizations that were privatized. This meant departure from the

earlier practice where goods good be supplied to someone who was

known to have no intention of paying a lot of attention to

creditworthiness among other principles of financial management

and specifically debtors management.

This coupled with other measures have seen some of these

companies make a complete turnaround e.g Kenya Airways that was

almost going under in the 1980’s and early 1990’s has made a

complete metamorphosis to become the Pride of Africa and a major

player in the global airline industry. KCB has also seen a lot of

improvement under the stewardship of Gareth George.

Despite this fine example more companies both in the private and

public sectors still experience financial problems whose root

cause can be traced back to bad debtors’ management and use of

wrong standards when granting credit. There are victims all over

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e.g. Telkom Kenya whose privatization hit a snag for a number of

reasons one of them being its large number and value of book

debts.

This is not a problem that is confined to Kenya only but also an

international problem, in the recent Enron sage, it was reported

that one of the reasons for the fall of the giant company was its

never ending list of debtors. For instance one of the entities

involved in the partnership called Raptors owed Enron more than

$700 million (Agencies, daily Nation: Feb 19, 2002).

There are other many examples of similar cases where private

companies have failed to take off due to owners’ failure to

distinguish between private life and their businesses. Such

businesses realize only when it’s too late that a large part of

their debtors are relatives and friends who have accessed their

business funds for other reasons other than business.

Thus the need arises to find and prove that there is a link

between debtor’s management and business performance and device

simple principles that can be applied across the board in the

management of accounts receivables.

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Inspiration into the research arose when I was an intern in Kenya

Institute of Education. It is in these two organizations that it

came to my surprise to me that such an organization could face

problems in management of their debtors. Even though their

problems might not be as serious as that of Telkom Kenya or

Enron, non-the less the problem does exist.

I undertook my study in Airtel Limited and to be able to

understand this we need to begin by looking at this

organization’s structure and a brief history of the organization

Airtel Kenya limited

The company is one of the mobile service providers in the country

and was launched in August 2000. The company is partly owned by

Sameer group of companies and partly by Vivendi International. In

the last ten years the company has intensively expanded with a

remarkable increase in the number of subscribers its main

competitor being Safaricom- the market leader.

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Together with Safaricom, Airtel has made communication much

simpler for Kenyans who now don’t have to suffer using other

means of communication like letters which are fast and reliable.

The mobile phone industry has grown to be one of the major

revenue earners for the government and the citizens at large. The

sector offers employment to thousands of people and the number is

growing. Employment is still offered both directly and

indirectly.

The main goal of Airtel is to be the leading mobile services

provider in Kenya and to be able to ensure that every Kenyan is

able to have access to its high quality service.

Structure

Airtel is tructured in such a way that it has got departments,

sections, sub-section etc. the structure is as presented below.

Departments: figure 1

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Hierarchy: figure 2

xvi

CEO

IT/TECHNICAL

MARKETING SALES

CUSTOMER CARE

GROUP LEADERS

GROUP LEADERS

MANAGERS

GROUP LEADERS

MANAGERS

GROUP LEADERS

GROUP LEARDERS

MANAGERS

C.M

MANAGERSMANAGERS

C.M

FAHR

As can be seen from the figure 1, there are six departments in

Airtel. IT department and Technology department are in the

process of merging into a single department thus reducing the

number to five.

FAHR

This Stands for Finance Administration and Human resource

Department. This department carries out the most diversified of

duties. Reporting to the chief manager are six section managers

and these include;

I. Accounting manager- heads the accounting section.

II. Administration manager-heading the administration section

III. Systems manager- heading the systems section.

IV. Legal manager- heading the legal section

V. Human resource manager- heading the human resource section

VI. Budgeting and reporting manager-heads budget and reporting

section.

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COODINATO COORDINATO COORDINATO COODINATOR COORDINATO

Focusing on our main area of attention i.e the accounting section

which is where my study is based. This section is headed by the

accounting manager and has got four subsections. The main

function of this section is to account for the day to day

transactions of the company, carry out monthly reconciliation and

coordinate with the sales department to ensure the smooth

operation of sales function. The subsections are;

Accounts receivable (AR)- collects all amounts owing to the

company

Accounts payable (AP)-deals with all amounts that are owed by the

company to outsiders.

General ledger (GL)-accounts for the assets of the company.

Treasury-maintains the organization’s cash reserves, investments

and keeping the organization in touch with any changes in

government policy.

Since my study is based on account receivable, the study begins

with looking at different sources or way by which the asset

arises and these are:

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Distributers

Roaming

Subscribers

Shops

Interconnection

Distributors are persons who are given phones and other

accessories to sell on behalf of the company. This is one of the

main sources of income and Airtel has got about twenty

distributors.

Rooaming income is earned when a person from another country

visiting Kenya uses the airtel network to make a call, his mobile

service provider at home is reguired to pay airtel a roaming fee

for allowing the subscriber to use their network the same way

Zain will have to pay for a zain subscriber abroad using another

company’s network. This must be a company that has a roaming

agreement with Airtel. The difference from what is received and

what is paid forms the roaming revenue.

xix

Subscribers are customers who hold post paid lines meaning they

are billed on mothly basis which they have to pay lest they are

disconnected.

Another source of revenue is sales from shops. The company has

got several shops distributed throughout the country. Many are in

Nairobi others in Mombasa, kisumu and Eldoret. All the sales made

by the cashiers in these shops be it handsests, scratch cardsetc

are all termed as shop revenue.

Interconnection revenue arises when a subscriber from another

network sends a message or makes a call to an Airtel subscriber.

It is the responsibility of the AR leader and his team to ensure

that all funds are collected and banked in good time and with

minimal losses. In an effort to fulfil this duty various measures

have been taken which have made this collection team the darling

of the accounts section. These measures include:

A well integrated computerized system between customer care

and the accounting department which allows the accounts

section to know when and how much is expected from

subscribers and to ensure that money received is banked

xx

without any delays. This has been made possible with shared

softwares.

At park side shops the first American bank cashiers double

up as the cashiers for the shop thus not only ensuring quick

banking of cash collected but also security for large amount

received on daily basis.

All distributors operate on cash basis apart from a few who

have to provide a bank guarantee (BG) to obtain goods on

credit. The system is designed such that no distributor can

be supplied with goods above their BG thus reducing the risk

of bad debts.

Separate bank accounts for the different channels of sale to

avoid any confusion and misplacement of funds.

Division of the collection of debtors or cash among the

collection team such that only one person handles shops the

same for subscribers, roaming e.t.c. this has fostered

accountability and efficiency.

There has also been an effort to keep the level of debtors

very low by making sure that part of the revenue are

received in advance e.g. prepaid subscribers.

xxi

Several checks have also been put in place between the sales

and accounting departments which ensures that what is sold

through the various channels is what is reported and

reflected in the books of accounts.

Despite all these measures and level of efficiency attained by

the collection team, the team still faces shortcomings. Obstacles

yet to be overcome include:

Some of the debts have still turned out to be bad debts

When cheques are received from shops at the head office they

are not marked as to where they are from and which line of

sale they represent and this pose a problem not to

mention extra costs when trying to sort them out.

Sometime due to the workload some cheques might be received

but not banked immediately resulting to delay while some may

even get misplaced.

Sometime due to lack of coordination between sales and

accounting some distributors on credit are allowed access to

credit above their bank guarantees exposing the organization

to the risk of default.

xxii

Sometimes due to delay in sending off bills in time or

failure to set deadlines, and implement the same on the

customers, collection of dues may be delayed.

There is also the problem of post dated cheques received

from customers. These are sometimes banked early when the

customer may not have sufficient funds in its bank account.

This results in a lot of problems and may result in fines

being posed on both customer and organization.

It is after noting all this with big concern that I was able to

identify a weakness in the effective collection of funds that

needed improvement. It also became clear that these shortcomings

as few as they may be were costing the organization how much

exactly we couldn’t tell but nonetheless these were costs that

could be avoided. This led me to ask myself whether other

organization faced the same problem and if they did how it was

affecting them and how they were dealing with it if they were.

1.2 statement of the problem

Many companies have found themselves in poor working capital

positions over the years, the extreme being liquidation and

xxiii

receivership for some. Sad news is that currently, one of the

Kenya’s media company- the Kenya times is under receivership

(daily news paper: 28th feb, 2012). Unfortunately it is only the big ones

that have been able to make news e.g KCB, NBK etc.

What about the small ones that have gone under without attracting

the attention of many apart from the owners? It is not clear how

many but in the last decade many just to say the least .it is not

seldom to hear entrepreneurs who have lost their businesses

explain how they were owed so much by customers, relatives,

family etc leading to their demise. it is the same story when

financial manager and CEO’s try to explain why their big and once

stable institutions have now facing financial difficulty. They

often talk of non-performing loans, bad debts etc

Thus comes out clearly that most organizations and businesses in

general do face the problem of management their portfolio of

debtors. Some small businesses are not even aware of the

importance of this activity to their business and the ones who

are aware do not possess the required skills or debtors’

management principles to be able to deal with the problem. Such

xxiv

people find themselves incurring bad debts related expenses like

loss of profit, court expenses, loss of stock and many more.

The worst part is that these are expenses which can be averted

replacing some simple preventive and corrective measures in

place. This might involve incurring some initial cost but these

are insignificant if compared to the cost that will be saved in

the long run. It is due to this need that this study is being

conducted.

1.3 objective of the study

The study aims at highlighting to the business community as a

whole the importance of paying special attention to their

accounts receivables. This cuts across the board whether the

business is a multinational or a local kiosk.

It also hopes to clearly show the relationship that exists

between debtors’ management and business performance.

Lastly it aims at making known to every business and acting as a

reminder to those who already know the simple principles for

xxv

better debtors’ management as a means of improving business

performance. These are principles that can be applied by

unilever or cocacola while as the same time they can be used by

Wairimu’s grocers or Musyoka’s kiosk.

1.4 The significant of the study

I believe that lack of simple management skills like debtors’

management skills are ignoring of these principles is to blame

for the downfall of most businesses. This study is going to

highlight the importance of these principles while at the same

time remind the businesses of the price they have to pay for

ignoring these principles. It is going to be very significant

especially to small businesses whose growth has been retarded

over the years due to many reasons this being one of them.

This study is bound to set them on their way to success coupled

by the fact that soon they will be able to have access to

finances as a result of the restructuring that is taking place.

It is my believe that they have a big role to play in the revival

of our economy and in the alleviation of povery.

xxvi

Last but not least it is going to remind financial managers of

big companies the importance of taking time to manage their

debtors and do so in a professional way. Achieving this level of

significant is the goal of this study. If this happens then all

the work done and effect put into it would not be in vain.

1.5 research questions

I. Is it possible to operate a business on cash basis only and

still be competitive?

II. Is working capital management important in the daily

functioning of a business?

III. Does management of debtors have any effect on working

capital?

IV. Should organizations pay any special attention to management

of debtors?

V. Does the management of accounts receivable affect business

performance in any way?

VI. Is it worth to invest in debtor’s management

VII. Does business size affect level of emphasis placed on

management of debtors?

xxvii

1.6 hypothesis of the study

The following are the hypotheses of the study.

Businesses cannot operate without giving credit and thus

debtors

Debtors’ management is crucial to the day to day running

of the business.

Debtors’ management has an effect on working capital.

The level of attention paid by management of debtors is

depended on business size.

Proper debtors management improves the performance of a

business

1.7 limitations of the study

The main challenge faced in the course of carrying out this

study is the unwillingness of most of the respondents to

part with sensitive information especially when it came to

xxviii

issue like their level of bad debts, average amount of

debtors etc.

Failure by respondents to answer questionnaires or answering

partly. This was prevalent among the large organizations.

Getting an opportunity to interview most of the financial

managers or their equivalent proved to be one of the biggest

obstacles limiting information gathered.

For those managers who were able to make themselves

available for interviews, time was very limited and thus

some of the interviews were not exhaustive.

Since some of the questionnaires were left with

receptionists, secretaries, there is no guarantee that they

were filled by the intended persons.

Another limitation was lack of enough time on my part as the

other course work was also demanding and most of the

attachment time was utilized in completing the workload I

was handed at my place of attachment.

1.8 The assumptions of the study

The study assumes that all questionnaires sent and

especially the ones not handed directly reached the intended

xxix

respondents and were filled by them or by a person with

enough knowledge on the object.

The study also assumes that the respondents were honest

during interviews and in filling the questionnaires.

There is also the assumption that the sample groups chosen

reflect the entire economy and are a true reflection of what

is happening and happens in reality

1.9 Conceptual framework

In this section the conceptual framework is presented in a

schematic interpretation as shown in the figure below. It

identifies the variables that when put together explain the issue

of concern. It is formulated from the reflection of the

ideas/concepts. The conceptual framework is therefore the set of

broad ideas used to explain the between the independent variables

(factors) and the dependent variables (outcomes). Conceptual

frame work provides the link between the research title, the

objectives, the study methodology and the literature review.

The schematic diagram below shows the independent variables

(factors) and the dependent variables (outcomes).

xxx

Fig 3 .Conceptual Framework

(Independent Variables) (Dependent

Variables)

1.10 Definition of terms

Business – this is an economic unit (enterprise, venture, firm)

producing goods and services or supplying them with the aim of

making profit.

Business performance- is the measure whether the organization is

achieving its goals and objectives within the set period of time,

be it profit maximization, market share etc. business performance

xxxi

Mana

geme

nt o

f de

btor

s

Collection policy

Credit control

Credit standards

Perfor

mance of

orga

niza

tion

s

may be negative or positive with the organization successful in

achieving its goals being termed as having a positive business

performance and a negative for the reverse.

Debtors- are the people who owe the organization money as a

result of goods supplied or services offered to them on credit

and this represents a current asset for the organization.

EDI( electronic data transfer)- is the movement of information

electronically in machine retrievable format between computer

applications for the purpose facilitating a business transaction.

Factoring- this is the sell of the accounts receivable to a party

called a factor. The sale is without recourse to the factor. Once

purchased the account becomes the property of the factor.

Perfect market- this is a market in which any firm can obtain any

amount of funds with no transaction cost (perfect capital market)

and products are perfectly substitutable across the firms. No

delivery costs, shipping delays or defective goods (perfect

product markets).

xxxii

Letter of credit- this is an agreement by which a financially

stronger party (usually a financial institution) substitutes its

credit worthiness for that of the buyer.

CHAPTER TWO

2.0 LITERETURE REVIEW

2.1 INTRODUCTION

In order to be able to understand well the concept of debtor’s

management and its effect on how a business performs we need to

have a clear definition and an insight of some terms and concepts

closely associated with debtors and its management.

Often when someone talks about debtors or debtors’ management the

thought that occurs in the minds of financial managers is working

capital management. This is because working capital management is

usually is always the ultimate goal when we manage our debtors or

any other of its components. The question that arises is, what is

working capital management?

xxxiii

According to Pandey(1999). There are two concepts of working

capital i.e. gross and net working capital. Gross working capital

refers to firm’s investment in current assets. Current assets are

assets that can be converted into cash within an accounting year

and includes cash, short term securities, debtors, stock e.t.c on

the other hand net working capital refers to the difference

between current assets and current liabilities within an

accounting period. Thus net working capital can be positive or

negative. With a positive net working capital meaning that

current assets exceed current liabilities and vice versa.

These two concepts have got equal significance with gross working

capital focusing on:

How to optimize investment in current assets.

How should current assets be financed?

While net working capital is more qualitative concept indicating

the extent to which working capital needs may be financed

permanent sources of funds.

Having seen what working capital is, we shift our focus to its

management. Working capital management refers to ‘the administration

xxxiv

of current assets and current liabilities. It involves the financing and management of

the current assets of the firm (Pandey 1999).

Working capital management is very important in day to day

running of the business. The financial executives probably devote

more time to working capital management than any other activity.

There are three main aspects of working capital management as

given by Higson (1995). And these are:

a) Management of cash

b) Management of debtors

c) Management of inventories

The financial manager must carefully allocate resources among the

current assets of the firm. In the management of cash the primary

concern should be for safety and liquidity with secondary

attention being paid to maximizing profitability of the firm.

An increasing portion of corporate asset investment has been on

account receivables as expanding sales fostered to some extend by

inflationary pressures have placed additional pressure on firms

to carry large balances for their customers. This has made

debtors very significant in the working capital mix.

xxxv

Inventory is the most liquid current asset and it should provide

the highest yield to justify investment.

Pandey goes ahead to state “working capital management is

critical for all firms but especially for small firms. A small

firm may not have much investment in fixed assets, but it has to

invest in current assets. Small firms face a severe problem of

collecting their debtors (book debt or account receivables).

Further the role of current liabilities in financing current

assets is far more significant in case of small firms, unlike

firms they face difficulties in raising long term finances.”

(1999; pg 890).

There is a direct relationship between a firm’s growth and its

working capital needs. As sales grow, the firm needs to invest

more inventories and debtors. These needs become very frequent

and fast when sales grow continuously.

It may, thus be concluded that all precautions should be taken

for effective and efficient management of working capital and

especially its three main components. This is true no matter the

type and size of the business.

xxxvi

2.2 MANAGEMENT OF ACCOUNTS RECIEVABLE

It has been said that an increasing portion of corporate assets

investment has been in accounts receivable as sales expand.

Trade credit arises when a firm sells its products or services on

credit and does not receive cash immediately. A firm grants trade

credit to protect its sales from the competitors and to attract

more customers. Trade credit creates receivables or book debts,

which the firm is expected to collect in the near future. The

book debts arising out of credit has three characteristics;

a) It involves the element of risk, which should be carefully

analyzed. Cash sales are totally riskless, but not the

credit sales because the cash payment is yet to be made.

b) It is based on economic value. To the buyer the economic

value of goods or services passes immediately at the time of

sale, while the seller expects equivalent value to be

received later on.

xxxvii

c) It implies futurity. The cash payment for goods or services

received by the buyer will be made by him in a future

period.

The customers from whom receivable or book debts have to be

collected are called trade debtors.

Hull and William (1992:402) argue that if there is perfection in

capital and product markets, then the credit policy would be

irrelevant. A buyer would be able to borrow from a bank just as

easily as borrowing from a seller. If one firm is offered more

liberal credit terms than another, the first would have to make

up for it by charging more for the product or by going out of the

business because the effective price would be too low.

Essentially, credit term and prices would be perfectly

interchangeable. So given perfect market, firms would be

indifferent to credit policy. No credit, strict credit, liberal

credit in the end, all would be equivalent and would never give

any firm any advantage. Of course, credit is almost universally

extended between buyers and sellers, the reason lies in the

market imperfections e.g. for many transactions, a shipment and

xxxviii

inspection period is required i.e. the buyer may be unwilling to

pay until after the goods have been received and inspected to

ensure that they are not defective. In perfect product market

this is not necessary.

In case of imperfect market the credit acts as insurance to the

buyer. This and other imperfections like information

inefficiencies, transaction costs etc, necessitate credit. A

firm’s investment in accounts receivable depends on;

Volume of credit sales.

Collection period

For instance, if a firm’s credit sales are ksh. 30.000 per day

and buyers on average take 45 days to make payment, the firms

average investment in accounts receivable is:

Daily credit sales x average collection period

i.e shs 30,000 x 45 = shs 1,350,000

The volume of credit sales is a function of the firm’s total

sales and total sales depend on the market size, firm’s market

xxxix

share, and product quality. Intensity of competition, economic

conditions e..t.c. the finance manager hardly has any control

over those variables. This is one way in which the financial

managers affect the volume of credit sales and collection period,

consequently investment in accounts receivable. This is through

the changes in credit policy

2.3 CREDIT POLICY

The term used to refer to the combination of three decision

variables;

Credit standards

Credit terms

Collection efforts

xl

Credit standards are criteria to decide the types of customers to

whom goods could be sold on credit. If a firm has more slowly-

paying customers, its investment in accounts receivable

increases. The firm will be exposed to high risk of default.

Credit terms specify the duration of credit term of payment by

customers.

Collection efforts specify the duration of credit terms of

payment by customers. Collection efforts determine the actual

collection period, the lower the collection period, the lower the

investment in accounts receivable.

2.3.1 Goals of credit policy

A firm may follow a lenient or a stringent credit policy. The

firm following a lenient policy tends to sell on credit to

customers on very liberal terms and standards, credit worthiness

is not fully known or whose financial position is doubtful. In

contrast a firm following stringent credit policy sells on credit

on highly selective basis only to those customers who have proven

xli

credit worthiness and who are financially strong. In practice

firms follow credit policies giving range between stringent to

lenient.

2.3.2 Marketing tool

Firms use credit policy as a marketing tool for expanding sales.

In a declining market it may be used to maintain the market

share. Credit policy helps to retain old customers and create new

customers by winning them away from competitors. In a growing

market it is used to increase the firm’s market share. Under

highly competitive situation or recessionary economic conditions

a firm may loosen its credit policy to maintain sales or to

minimize erosion of sales.

2.3.3 Maximization of sales versus incremental profit

Is sales maximization the goal of firm’s credit policy? If it was

so the firm would follow a very lenient credit policy and would

sell on credit to everyone but in practice firms do not follow

very loose credit policy just to maximize sales. Sales do not

xlii

expand without costs. The firm will have to evaluate its credit

policy in terms of both return and cost of additional sales.

Additional sales should add to the firm’s operating profit. There

are three types of costs involved:

Production and selling costs- these increase with expansion

in sales. If sales expand within the existing production

capacity then only the variable production and selling costs

will increase. If capacity is added for sales expansion

resulting from loosening of credit policy, the incremental

production and selling will include both variable and fixed

costs. The difference between the incremental sales revenue

and incremental production and selling costs is the

incremental contribution of the change in credit policy. A

tight credit policy means rejection of certain types of

accounts whose credit worthiness is doubtful. This results

in loss of sales and consequently loss of contribution. This

is an opportunity loss to the firm. As the firm starts

loosening its credit policy, it accepts all or part of the

xliii

accounts which the firm had earlier rejected. Thus the firm

will recapture lost sales and thus lost contribution.

Administration costs- when the firm loosens its credit

policy, two types of administration costs arise. Credit

investigation and supervision costs and collection costs.

The incremental cost of credit administration will be nil if

the existing credit department without any additional cost

can implement the new credit policy.

Bad debt losses- this arises when the firm is unable to

collect on its accounts receivable.

Thus the evaluation of a change in a firm’s credit policy

involves analysis of:

Opportunity of costs of lost contribution

Credit administration and bad debt losses.

These two costs behave contrary to each other as a firm moves

from tight to loose credit policy, the opportunity cost declines

i.e. the firm recaptures lost contribution but the credit

administration cost and bad debt losses increases i.e. more

xliv

accounts have to be handled which also includes bad accounts

which ultimately fail to pay.

The firm’s credit policy will be determined by the trade-off

between opportunity cost of lost contribution and credit

administration cost and bad debt losses are minimal.

Pandey in his book: “financial management” states that other

reasons of credit or for choosing a particular credit policy are:

a. Competition- the higher the degree of competition the more

the credit granted by a firm

b. Buyer requirements- in a number of business sectors, buyers

are not able to operate without being extended credit.

c. Industry practice

d. Transit delays

These are just but a few of the reasons, as they vary from

business to business.

xlv

2.3.4 Optimum credit policy

Figure 3: graph illustrating the cost of credit policy. Source

Financial Management by Pandey

Tight credit policy loose

The firm’s operating profit is maximized when total cost is

minimized for a given level of revenue. Credit policy at point A

represents the maximum operating profit (since the total cost is

at minimum). But it is not necessarily the optimum credit policy.

Optimum credit policy is one which maximizes the firms’ value and

this is the goal of the firm’s credit policy. To achieve this

xlvi

A

Profitability

Liquidity

goal the evaluation of investment in accounts receivable should

involve the following four steps:

a. Estimation of the incremental operating profit

b. Estimation of incremental investment in accounts receivable

c. Estimation of incremental rate of return of investments

d. Comparison of the incremental rate of return with the

required rate of return

As the investment in accounts receivable is increased two things

happen: marginal expected rate of return falls and risk

increases.

This is shown in the graph below;

xlvii

Figure 4: figure to illustrate optimum level of receivables

Source: Financial Management by Pandey

Stringent credit policyliberal

The optimum investment level lies at a level of investment below

that which maximizes operating profit. In the figure above

xlviii

Marginal cost of capitalK

Marginal rate of

Optimum investment in receivables

operating profit is maximum at the point at which incremental

rate of return is zero.

2.3.5 Credit policy variables In establishing an optimum credit policy the financial manager

must consider the importand decision variables which influence

the levels of receivables i.e.

a. Credit standards and analysis

b. Credit terms

c. Collection policy and procedures

2.3.5.1Credit standards and analysisCredit standards are the criteria which a firm follows in

selecting customers for the purpose of credit expansion. The firm

may have tight credit standards and may extend credit only to the

most reliable and financially strong customers.

Such standards will result in no bad debt losses and cost of

credit administration. But the firm may not able to expand sales.

xlix

The profit sacrificed on lost sales may be more than the cost

saved by the firm.

On the contrary if credit standards are loose, the firm may have

large sales but it will have to carry larger receivables, the

cost of administering credit and bad debt losses will also

increase.

Thus the choice of optimum credit standards involves the tradeoff

between incremental return and incremental cost.

Credit standards influence the quality of a firm’s customers.

There are two aspects of customer quality;

Time taken by customer to pay their credit obligation.

The default rate

The average collection period determines the speed of payment by

customers. The longer the average collection period (ACP) the

l

higher the firm’s investment in accounts receivable(AR).

Default rate can be measured in terms of bad debt losses ratio

and this indicates the default risk. Default risk is the

likelihood that a customer will fail to pay the credit

obligation.

To estimate the probability of default risk, the credit manager

needs to consider three C’s of credit worthiness as given by

Pandey;

Character- a customer’s willingness to pay

Capacity- customer’s ability to pay

Condition- prevailing economic conditions which may affect

the customers ability to pay

Once this information has been collected, then it can be used in

preparing categories of customers according to their worthiness

and default risk. This would be an important input for the

financial and credit managers in formulating the credit

standards.

The firm may then categorize its customers into three categories;

li

Goods accounts- financially strong customers

Bad accounts- financially weak customers

Marginal accounts- customers with moderate financial health

and risk

The firm will have no difficult in quickly deciding about the

extension of credit to good accounts and rejecting the credit

requests of bad accounts. most of the firm’s time will be spend

on marginal accounts.

A number of factors influence a customer’s credit worthiness.

This makes credit investigation a difficult task. A firm can use

numerical credit scoring to appraise credit application when is

dealing with a large number of small customers.

Based on the past experience or empirical study, a firm may

identify both financial and non financial attributes that measure

the credit standing of a customer. The numerical credit scoring

model may include;

a. Ad hoc approach- here certain attributes are identified by

the firm and assigned weight depending on the importance

and then combine to create an overall (simple or weighted)

lii

score or index e.g a bank may consider the following when

considering a car loan for a customer.

A table showing attributes used by a bank to create a combined score used to set credit

standards

Source: financial management by Pandey.

Table 1

ATTRIBUTE

FEATURE

POINTS

TELEPHONE YES 1liii

N0 0

EMPLOYMENT EMPLOYED 2

SELF EMPLOYED 1

UNEMPLOYED 0

INCOME MORE THAN SH 50,000

4

25,000-50,000 3

10,000-25,000 2

LESS THAN 10,000

1

BANK ACCOUNT MORE THAN ONE 2

ONE 1

NONE 0

RESIDENCE OWN 3

RENTED HOUSE 2

RENTED FLAT 1

liv

MARITAL STATUS MARRIED 3

`UNMARRIED 2

DIVORCED 1

AGE UNDER 25 2

25-35

3

OVER 35 1

INTEGRITY EXCELLENT 3

GOOD 2

FAIR 1

BAD 0

With this in place then the bank fixes a cut-off point below

which you can’t be granted a loan

lv

b. Simple discrimination analysis- it involves use of more

objective methods of differentiating between good and bad

customers e.g. earnings before depreciation, interest and

tax(EBDIT).

c. Multiple discriminant analysis- this unlike simple

discriminant analysis combines many factors according to

the importance given to each factor and determines a

composite score to differentiate good and bad customers

2.3.5.2 Credit granting decisions Once the firm has assessed the credit worthiness of a customer,

it has to decide whether or not credit should be granted. The

firm should use the NPV rule to make the decision. If the NPV is

positive then credit should be granted.

Suppose a customer wants to purchase goods worthy Sh. 20,000 and

4 month credit from Karima Company, there is 90% probability that

the customer will pay in 4 months and 10% probability that he

will not pay anything. The firm’s required rate of return is 18%.

Should credit be granted? If the firm does not give any credit it

lvi

loses possibility of making any sales. On the other hand, if it

offers credit its expected pay off is as follows;

NPV ¿{P (REV )(1+K )t

−COST}−{(1−P)COST

(1−K )t}

¿ [0.9 (20,000 )

(1.18 )13

−14,000]−[(1−0.9 )14,000

(1018)1

3

]

= 1709

lvii

Thus Karima should extend credit to the customer.

I. credit terms

Credit term has been defined as stipulation under which the firm

sells on credit to customers( pandey. 1995: 558)

It has also been defined as stated policies given to a customer

or a group of customers regarding:

payment timing

term of payment

discount for timely customers

penalties for late payments( Hill and William, 1992:404)

Most firms quote the same credit terms offered by competitors for

fear of diverse consequences of change and thus very few firms

change credit terms from year to year. Even though existing firms

are reluctant to alter credit terms, a new firm in a particular

market has to determine what term to offer. Such firms have to

consider the following factors in setting its credit terms.

lviii

2.3.6 Factors to consider in setting credit terms Profitability of sales-credit policies significantly affects sales.

Profitability of sales is defined as the incremental sales

dollar volume minus the incremental costs (Hill and William,

1992). Note that we are using profitability of sales rather

than simply sales because cost support sales must be

considered. Gross sales may increase by adopting attractive

credit discounts for early payment

but the firm receives only net sales after computing

discounts.

Bad debts-extension of credit always exposes the seller to

bad risk.

Administration costs- administrative responsibilities with

regard to the credit function include ; keeping track of

amounts owed by each customer, following up late payment ,

monitoring cash discounts, gathering and storing credit

information, e. t .c .these may require large staff and

these needs to be incorporated in declining the credit term

to adopt.

lix

Relatiom to other functions of the firm e .g . sales, marketing, production ,e .t .c.

Time value cost- delaying cash flows by extending credit terms

forces the firm to obtain other means of financing operation

i . e. extra costs

Constraints e. g industry conventions ,legal constraints,

working capital constraints.

2.3.7 Survey of credit termsCredit terms are usually stated on an invoice or an informal

legal contract between buyer and seller. Some commonly used

credit terms include:

Cash in advance (CIA)- cash before delivery

Cash on delivery(COD)-goods must be paid for upon delivery

Cash terms-goods must be paid for upon receipt of invoice,

which may take a few days.

standard terms-e.g “net 30” and “net 60” meaning payment in

full is due 30 or 60 days from the date of invoice.

Discount terms-a certain percentage of discount is offered

for early payment

lx

Prox terms-payment is due by a specified date the following

month

Letter of credit

Seasonal dating

Electronic credit terms, e.t.c

lxi

2.3.8 Quantitative Evaluation of Credit TermsSource: Hill and William

Table 2

PROFIT

SALES

BAD

DEBT

EXPENSE

ADMINISTRATION

COST

OTHER

AREAS

TIME

VALUE

CIA - - ++ ++ - ++

COD - - ++ + - ++

CASH + - - 0 +

lxii

TERMS

STANDARD

TERMS

+ - - 0 -

DISCOUNT

TERMS

+ - - - 0 -

PROX

TERMS

+ - - 0 - -

DATING

TERMS

++ -- - - + - -

KEY

+ + very beneficial to seller

+ Moderately beneficial to seller

0 neutral

- Moderately costly to seller

- - very costly to seller

lxiii

+- mixed, depending upon the situation

2.3.9 Collection policy and proceduresCollection policies refer to set of actions a seller may take to

encourage buyers to adhere to stated credit terms(Hill and

William, 1992:422)

A collection policy is needed since not all customers pay the

firms bills in time. Some customers are slow payers while others

are non-payers. The collection effort should therefore aim at

accelerating collections from slow payers and reducing debt

losses.

It should ensure prompt and regular collection.

Prompt collection is needed for fast turnover of working capital,

keeping collection costs and bad debts within limit and

maintaining collection efficiency. Regularity in collection keeps

debtors alert and they tend to pay their dues promptly.

The collection policy should lay down clear cut collection

procedures. The slow paying customers need to be handled

lxiv

carefully. Some of them may be permanent customers. The

collection process initiated quickly without giving any chance to

them may antagonize them and the firm may loose them to

competitors.

The responsibility for collection and follow up should be

entrusted to sales or accounts departments or a separate credit

department. There should be coordination between accounts, sales,

marketing and other departments. The account department maintains

the credit records and information. If it is responsible for

collection it should contact sales before initiating any action

against non paying customers. Similarly, sales department must

obtain information about customers before granting credit-from

the accounts department. Though collection procedures should be

firmly established, individual’s cases must be dealt with

depending on their merits. Firms should also consider offering

cash discount and other incentives for prompt payment.

lxv

2.5 CREDIT EVALUATION OF INDIVIDUAL ACCOUNTS

For the effective management of credit, the firm should lay down

clear-cut guidelines and procedures for grading individual

customers and collecting individual accounts. The firm needs to

follow the policy of treating all customers equal for the purpose

of extending credit terms. Similarly, collection policy will

differ from customer to customer. The credit evaluation procedure

of individual accounts should involve the following steps:

Credit information- the firm needs to collect all the

information on customer it is considering extending credit

to. In doing this, the firm should consider the cost and

time required to collect this information in relation its

reliability. Some of this information include past credit

lxvi

history, credit agency, references, financial statements,

published news reports, e.t.c.

Investigation and analysis-having obtained the credit

information; the firm will get an idea regarding the matters

that need further investigation.

Credit limits- this is the maximum amount of credit that the

firm will extend at a point in time. It indicates the extent

of risk taken by the firm by supplying goods on credit to a

customer. This must be reviewed periodically.

Collection efforts- this should be stated generally but with

some specific step for special kind of customers and

specified cases.

lxvii

2.6 MONITERING RECEIVABLES

Monitoring accounts receivables is a key task in credit

management. Individual accounts are monitored to ensure that

credit customers adhere to the firms stated credit terms and warn

the management when and where trouble arises. Late payment may be

a sign of either intentional or financial difficulties. The

overall level of receivables is monitored to ensure sound

collection procedures and to keep the credit function in line

with the financial objectives of the firm.

Monitoring of individual accounts may be done by two main

methods:

a. Aging schedule

b. Average collection period

2.6.1 Aging schedule An account aging schedule is simply a listing of each credit

customer together with the amount unpaid as of the report date.

It allows a quick review of accounts that are post due.

lxviii

2.6.2 Average collection periodA useful tool for reviewing past payment practices of a customer

is to monitor the average collection time. For this measure, the

firm tracks the date of invoice and records when available funds

are obtained. The objective is to capture the entire collection

time line. An average is calculated for each customer by weighing

the days by the dollar amount of payment.

2.7 FACTORING

In as much as a firm may want to manage its accounts receivable,

credit management is a specialized activity and involves a lot of

time and effort of a company.

A company can assign its credit management and collection to a

specialized organization called factoring organization. This

provides financial and management support to the client. It is a

method of converting non productive, inactive

assets( receivables) into a productive asset (cash) by selling

lxix

receivables to a company that specializes in their collection and

administration.

2.8 CREDIT TERMS AND ELECTRONIC DATA INTERCHANGE TRANSACTIONS

(EDI)

Hill and William have said this about the effect of EDI on credit

term: “one of the barriers to EDI that concerns buyers is the

problem of possible earlier payment with EDI transactions. Since

EDI can drastically shorten the time line. Payment could be moved

up significantly compared to that of the current paper based

system. This would cause the buying firm to incur an opportunity

loss, since additional cash would have to be raised. Such fears

neglect the fact that a buyer is generally also a seller

therefore considering transactions in total the firm would also

benefit almost by faster cash inflows of an equal magnitude. Thus

the adoption of an EDI system may be used to reduce the risk

posed by defaulting debtors since payment is hastened and within

EDI systems sellers can exchange information easily on who is

credit worthy and who is not”

lxx

3.0 CHAPTER THREE

3.1 RESEARCH DESIGN

Survey research and observation were carried out to collect

relevant information and information of importance to the study.

An attempt was made to make the survey as wide and as

representative as possible with the aim of making the findings

which truly reflect what is happening in the whole

population .The research instruments used in the survey were

questionnaires and interviews.

3.2 POPULATION AND SAMPLE

The population of the study was business organizations operating

in the Kenyan economy.

Due to limitation of funds and time a survey of the whole nation

was not carried out and Nairobi was picked to be the

representative of the rest of Kenya. From these, wide and diverse

lxxi

population business organizations were first classified

qualitatively based on the various industries in which they

operate e.g. tourism, communication, e. t. c.

Once this had been done then companies were picked randomly from

each industry or sector with a lot of care being taken to have

representatives from businesses of all sizes i.e big or large

scale companies, medium scale and small entrepreneurs. This means

the survey involved the big and mighty while at the same time the

local shopkeeper was also surveyed.

3.3 DATA COLLECTION

In collecting data for this study both primary and secondary

methods of collection were used.

lxxii

3.3.1 Primary Survey ResearchThis involved a field study where the following instruments were

used:

Observation

Interviews

Questionnaires

3.3.2 0bservationThis was mainly employed during my industrial attachment period.

By observing the day –to day operations in Airtel accounting

department and from this I was able to learn a lot especially on

how this organization handles debtors, stock, cash, e .t. c

This tool was very important and convenient as all that was

required was that I am present and I did not have to do a thing

or disturb anyone.

Later observation was also applied at the various businesses I

visited and assisted in understanding these businesses and how

they operated.

lxxiii

3.3.3 Interviews This involved having one on one chat with the managers,

entrepreneurs, where it was possible. This tool was very

important as it opened my eyes to a lot of things that I would

not have otherwise been able to discover or see through and use

of questionnaires. Use of interviews was limited by a number of

factors:

Very few managers would spare time for interviews as

most preferred questionnaires

Interviews demanded a lot of time on my part while

time was a very limited resource on my part.

Most managers were afraid of interviews for fear of

being quoted.

Most of those interviewed feared parting with some

information, which they regarded as sensitive.

Despite all these, this tool was very effective especially when

it came to small business.

lxxiv

3.3.4 QuestionnairesEmploying the use of questionnaires also assisted in collection

of data for the study. This was in the list of short questions

that respondents were required to answer. Few of these

questionnaires could be filled immediately upon presentation,

most of them had to be dropped and picked again after a few days.

This tool was most effective among the big organizations where

personal interviews were not possible but it did not go without

its own limitations;

Some of the questionnaires were not filled or were ignored.

Many respondents feared committing themselves on paper.

CHAPTER FOUR

4.0 DATA PRESENTATION ANALYSIS

4.1 PRESENTATION AND ANALYSIS OF DATA FROM INTERVIEWS AND

OBSERVATION

There was an attempt to find out whether businesses can afford to

operate on cash basis strictly thus avoiding debtors and yet

remain competitive. From the survey conducted on businesses of

lxxv

all sizes in all industries, data which was obtained. Was

presented as follows:

Should businesses be operated on cash, credit or both cash and credit?

Table 3

SMALL MEDIUM LARGE TOTAL

CASH 12 1 0 13

CREDIT 1 2 2 5

BOTH 7 10 8 25

A table showing responses on whether a business should be operated on cash, credit or

both cash and credit

SMALL MEDIUM LARGE0

2

4

6

8

10

12

14

CASHCREDITBOTH

lxxvi

a graph showing modes of operation employed by different

businesses

Analysis

More responses were received from small businesses as

compared to large ones.

From the graph when we look at small business we can deduce

that they don’t fancy operating their businesses on credit.

Quite a few of these entrepreneurs like shopkeepers were

found to operate their business on both cash and credit but

with preference to cash. A large number of these people

prefer to operate strictly on cash basis despite the fact

that their supplies grant them credit facilities. This

category included hawkers, grocers, barbers e.t.c

Total

Cash 13

lxxvii

Credit 5

Both 25

12%

30%

58%

Cash CreditBoth

SALES CONTRIBUTION BY DIFFERENT SALES MEANS IN ALL BUSINESSES

From the pie chart above it can be seen that in general looking

at business of all sizes that most

Businesses prefer to run on both cash and credit basis as

compared to operating strictly on cash basis or strictly on

credit basis.

lxxviii

Closely linked to the previous finding was a survey to find out

the ratios contributed by both cash sales and credit sales to

these businesses overall sales turnover. The results were

summarized as follows after taking averages of the figures

availed by respondents.

Table 4

SMALL(%) MEDIUM(%) LARGE(%) CUMMULATIVE

AVERAGE(%)

CASH 78 53 43 58

CREDIT 22 47 57 42

The summarized table came about after analysis of findings

represented in these tables from each class of business.

Table 5: small business sampled

B1 B2 B3 B4 B5 B6 B7 B8 B9 B1

0

B1

1

B1

2

B1

3

T

CASH (%) 92 80 88 75 70 80 84 82 69 71 74 76 78 101

9

CREDIT(% 8 20 12 25 30 20 16 18 31 29 26 24 22 281lxxix

)

Table 6: medium businesses sampled

B1 B2 B3 B4 B5 B6 B7 B8 B9 B10 T

CASH(%) 58 46 61 44 40 62 52 50 52 66 531

CREDIT(%

)

42 54 39 56 60 38 48 50 48 34 469

Table 7: large businesses sampled

B1 B2 B3 B4 B5 B6 B7 B8 B9 B10 T

CASH(%) 30 18 56 48 42 40 51 56 40 49 430

CREDIT(%

)

70 82 44 52 58 60 49 44 60 51 570

Small businesses

lxxx

Cash sale percentage ¿ 10191300×100=¿ 78%

Credit sales percentage ¿ 2811300

×100=¿ 22%

Medium businesses

Cash sale percentage= 5311000

×100=¿ 53%

Credit sale percentage = 4691000

×100=¿ 47%

Large businesses

Cash sale percentage = 4301000

×100=¿ 43%

Credit sale percentage = 5701000

×100=¿ 57%

By looking and the tables the following findings can be seen:

All businesses, be they small or large, owe part of their

total sales revenue to credit sales.

lxxxi

This percentage of sales due to credit sales increases as

the size of business increases. Thus it varies with size of

the business.

Small businesses owe big part of their sales to cash sales

but still have to make some credit sales and thus raising

the issue of debtors.

Medium and large businesses have their sales split between

cash and credit sales

Looking at the summarized table, when sales for all

businesses surveyed are aggregated the indication is both

credit and cash sales have big role to play and both are

required by the business for survival.

3) During the survey of many medium scale and large scale

companies. I was keen to observe and asked questions during

interviews to individuals in whose dockets management of debtors’

falls and whose responsibility it’s to manage debtors of the

particular concern. Of particular interest to me was whether when

it comes to granting credit, following up credit and other debtor

related activities, is the responsibility of one department or is

there co-ordination among other various concerned departments.lxxxii

The findings were tabled in a table showing department in one

column and the number of entities that thought it is the study of

that specific department to manage debtors. This table is shown

below.

Table 8

DEPARTMENT NUMBER

CUSTOMER CARE 2

SALES 10

ACCOUNTS 23

ALL OF THE ABOVE 12

A table showing the departments and number of respondents who thought it is the

department’s duty to manage debtors.

This can be presented graphically as follows;

Graph 2

DEBTORS RESPONSIBILITY BY DEPARTMENT

lxxxiii

CUSTOMER CARE

SALES ACCOUNTS ALL OF THE ABOVE

0

5

10

15

20

25

From the data gathered and represented above with the departments

on the x-axis the number of companies managers on the y-axis. It

can be seen that most of companies and managers are not of the

opinion that customer care and sales departments have anything to

do with debtors.

It is also clear that most of the respondents place the

responsibility of management of debtors squarely on the shoulders

of the accounts department.

It is however encouraging seeing that a number of respondents who

think that there should be a co-ordinated effort of all these

three departments to be able to better manage a company’s

debtors.

lxxxiv

4.2 PRESENTATION AND ANALYSIS OF DATA FROM QUESTIONNAIRES

a) One of the questions posted by the questionnaire during the

survey was whether working capital management has any role

to play in the day to day operations of a business and

whether management of debtors has any effect on working

capital. The response to this from all the respondents was

affirmative. All the respondents were of the idea that

debtor’s management will play a big part in affecting

working capital position. The respondents also agreed that

working capital affects day to day operations of the

business.

b) An effort also made to find out if any among the companies

surveyed had suffered or was suffering from bad debts. This

was in an effort to find out if debtors actually posed a

risk to the company. The results were presented below;

lxxxv

Table 9: a table showing losses to businesses due to bad debts

BAD DEBT

LOSSES

SMALL MEDIUM LARGE TOTAL

VERY HIGH 0 1 2 3

HIGH 2 3 2 7

AVERAGE 6 4 10 20

LOW 22 6 2 30

Looking at the results obtained from the small business surveyed,

it is noticed that they suffer very low level of losses due to

bad debts. Quite a number of the respondents confessed to their

business suffering losses that they attributed to bad debts. Very

few described their losses as high. Unfortunately, I had to take

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their words for it, as I could not be allowed to inspect their

books of accounts. These could be explained by earlier findings,

which showed that most of these businesses operate on cash basis

rather than credit.

When we turn to the medium scale businesses, it is important to

When we turn to the medium scale businesses, it is important to

note that unlike in the case of small scale businesses, a few

people in this category termed their losses as being very high.

This could be attributed to poor debt management skills and

increase in the number of credit sale. Notable also is that the

number of respondents who thought of their losses as being

average and high also increased. But like in the first column the

number of businesses suffering low losses due to bad debtors is

still the largest.

The final column is for large businesses where we find that equal

number of companies described their losses as very high, high and

low. Departing from the previous trend here the number of

companies describing their losses average is dominant.

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It can therefore be said that all businesses whatever the scale

of operation have suffered losses due to bad debts at one time or

the other and continue to suffer these losses. It is only the

degree of loss that varies from one business to other.

From the survey it could also be proved that level of

attention paid to management of debtors from one business to

other, from one company to the other was dependent on many

factors with the most dominant one being the size or

scale of the business. To this effect the following data is

available.

Table 10: a table showing the level of attention paid to debtors’

management.

SMALL MEDIUM LARGE

YES 18 10 14

NO 22 14 3

Most small businesses replied to the question of paying special

attention to management of debtors, in this case 22 to 18. The

reason given for this was the fact that most of their sales were

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in cash thus they did not see the need for it. Some give the

reason that it was an extra expense.

The medium scale businesses and most of the large businesses

(companies) which as seen earlier rely on credit sale for more

than 50% of the sales have no otherwise but give special

attention to the management of their debtors. For those who

didn’t have such measures in place could not afford or were just

ignorant.

The most important information sought by questionnaires and

partly by interviews and which is one of the major

objectives of this study was investigating the existence of

any relationship between how debtors are managed in a

business and the overall performance of a business. This is

mainly on those businesses that offer credit. For those

managers that I was able to interview, I was able to take

this further by asking them to explain the reasons behind

their answers and if they had any examples in their

businesses or outside. The results of the survey were very

clear and pointed to one direction as is reflected by the

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following data, two sets of questions were dedicated towards

this cause; the first one being; of what importance would

you give to management of debtors in your business? The

results were as shown

Table 11: a table showing the importance of debtors’

management in the performance of a business

SIZE OF BUSINESS

RESPONSE SMALL MEDIUM LARGE TOTAL

V.

IMPORTANT

16 12 14 42

AVERAGE 10 3 1 14

LITTLE 4 0 0 4

TOTAL 60

Graph 3: a bar graph to show the importance given to management

of debtors.

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SMALL MEDIUM LARGE024681012141618

V. IMPORTANTAVERAGELITTLE

From the graph it is clear that the management of debtors is of

importance to all businesses no matter the size of the

organization and this can be seen by the large number of

respondents that consider it very important. Only a few people

think of it as being of little importance and this is not

surprisingly is in the small business category and these might be

due to the fact that their percentage credit sale is significant

when compared to cash sales.

The second question to pose was more direct and straight and it

is just served to put emphasis on the previous one.

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Do you think management of debtors has got an important part to

play in how your business performs?

The results was one sided with all the managers responding

attaching great weight to how a business manages its business

debts having the ability to affect how well a business performs

at all.

Among the small businesses interviewed and those that answered

the questionnaires, none could come out and play down the role of

management of debtors plays in affecting the business

performance. The only thing that differed among them was the

level of importance they attached to it having a direct impact on

the results of a business.

Lastly but not definitely least to be revealed by the

questionnaires and the importance to this project was the

criteria employed by those business and businessmen offering

credit sales in deciding between who to grant credit to and

who to deny. The results actually surprised me not that I

did not expect it but rather it was the level of honesty

especially among parastatals and small business.

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Table 12: table showing the criteria used by different businesses

in deciding whom to offer credit to and who to deny credit.

CRETERIA UTILISED SMALL MEDIUM LARGE

SECURITY 0 4 3

PAST RECORD 4 2 2

STATUS 6 4 2

PERSONAL

RELATIONSHIP

8 4 3

AMOUNT BOUGHT 10 3 2

OTHERS 0 1 4

TOTAL 28 18 16

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4.2.1 Small scale businesses

14%

21%

, 29%

36%

SMALL

SECURITY PAST RECORDSTATUS PERSONAL

RELATIONSHIPAMOUNT BOUGHT OTHERS

Among the small entrepreneurs it seems that the most popular

characteristic used is not surprisingly do not fall anywhere near

the financial management principles for selection of who to give

credit to. The most popular ones are seen to be the amount bought

by the particular customer, his personal relationship with the

owners of the business and customer’s status in the society.

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