CREDIT and

COLLECTION
NATURE of Credit
L#1 Nature of Credit

Definitions:
 Borrower’s viewpoint: represented both as a
power and as an obligation
 Creditor’s viewpoint: signifies the existence
of a legal and moral right and an expectation of
the fulfillment of a promise
 Economist’s viewpoint: the exchange of actual
reality against future probabilities
 Legalistic viewpoints: creates a legal right in
favor of the creditor against the debtor
CREDIT - a transfer of goods, services or funds
giving rise to obligations that must be discharged in
the future

ITEMS Provided by the Lender or Creditor

1.Goods - groceries, appliances, medicines,
hardware
2.Services – car repair, beauty parlor services
3.Funds - cash loan from a pawnshop, bank, ind.
4.Property - a good for temporary use by another, a
beach house to be used over the weekend
5.Rights - possession or use of a commercial store
space, stocks, commercial paper
ELEMENTS of Credit

1. Trust & confidence – essence of credit

2. Futurity - time involved specified in the
document
3. Risk – the uncertainty whether he gets paid or
not
4. Credit is elastic – could be expanded or
contracted
5. It gives rise to creditor-debtor relationships
#M FOUNDATIONS of a System of Credit

1. Creditors must have absolute confidence in the

debtor to repay their debts
2. Proper facilities must exist for performing credit
operations
3. The money standard must be stable enough-
purchasing power equal to the value of money
advanced
4. The government must assist creditor in
enforcing payment of his debt

Question: is credit wealth?

Ass.: How does credit influences the business cycle?
#M FUNCTIONS of Credit

1. Economic function:
a. Serves as a medium of exchange; expansion of
the purchasing power
b. Makes capital available
c. Multiplier effect
2. Social function - provides uses for capital to
alleviate social conditions of people
3. Business promotion:
a. A tool of business promotion
b. Enables the businessman to adjust his volume
of capital to the varying needs of his business
Advantages:
1.Credit benefits the entire economy -
-More employment opportunities
- establishment of larger enterprise enabling
them to achieve economies of scale
- newly-generated profits means higher taxes
for public works development
- bigger inventory
- better marketing practices
2. expansion of the purchasing power of the
consumers

3. Savings in time and transactional expenses

4.It has the multiplier effect

Ex. financial advantage – CCM p25

cost of credit – CCM p26
#L Disadvantages of Credit

1. Misused credit leads to disaster

- Business bank economy
2. Credit leads to over-speculation and
overtrading
- Lender and borrower should control the use of
credit
3. The pleasure of having consumption goods
ahead of time may be offset by the burden of
forced savings or loss of consumption
4. Credit is a threat to our private property
5. Governments with heavy borrowings may
reduce future operations
COSTS of Using Credit:

1. Interest
- Charge paid in terms of percent and quoted on
an annual basis
- Interest is a price which is affected by
competition

2. Operating expenses
- Cost of daily operation, investigation and
collection of payment
3. Risk

- Uncertainty of payment resulting to losses

represents an added cost of doing business

How CREDIT Affects PRICES

- Credit expands the use of money and therefore

increases the rapidity with which money is used
- Increases and decreases in credit affect prices
similar to increases and decreases in the
supply of money
Impact of Credit Upon the Creditor and Debtor

rise in the value of money - harms the debtor

Fall in the value of money - harms the creditor
#L The Credit CONTRACT

Characteristics:
1. A bi-partite contract - two parties are
involved thus is viewed from two points:
A. creditor – gives the right to collect or compel
the debtor to perform his obligation
B. Debtor – it stresses his duty to fulfill his
promise
2. A pecuniary contract - final settlement of
transaction is in terms of money
3. Creates a legal obligation – creditor acquires a
right of recourse against the debtor upon
default of payment
4. Has the fiduciary element – contract is based on
trust
5. Based on personal factors – based on credit
standing

L#6 CLASSIFICATION of Credit

A. Credit of General Acceptability

- forms of credit which all persons within a
country are willing to take in payment for goods
and services
- Known as credit money or bank notes
B. Credit of Limited Acceptability

- Issued under conditions that make them

acceptable means of payment only within a
restricted field
1. Promissory note
2. Bill of exchange
3. Bank credit
4. Open book account
According to FORM

1. Direct loan - exact amount as contained in the

PN is given to borrower; interest collected at
maturity or periodically
2. Discounted loan - interest is collected in
advance and balance is given to borrower
3. Overdraft loan - the bank honors a check
issued by the depositor with a negative balance
account
As to type of USER

1. Consumer or Personal credit

- Extended to individual; short-term and non self-
liquidating
a. Retail credit – either charge or installment credit

2. Mercantile or Commercial credit

- Extended to businessmen to finance the
purchase of inventories
- Short-term and is self-liquidating
3. Bank credit
- loans extended to businessmen for
working capital purposes
4. Investment credit
- long-term funds obtained by businessmen via
intermediary financial institutions
- Used to obtain fixed capital
- funds are from savings and no transfer of goods

As to MATURITY
1. Unsecured loan

2. Secured loan
As to USE

A. Agricultural credit
- Intended for the acquisition of farm implements
used in the production and marketing of the
products
B. Commercial credit [mercantile credit]
- Finance the production & distribution of
commodities either by wholesale or retail, in
storage or in transit to foreign or domestic
market
C. Industrial credit
- to finance the needs of industries;
long-term

D. Export credit
- Needed when sales are made in foreign markets

E. Real Estate credit

- Secured for construction, acquisition, expansion
or improvement of real estate properties
Part 1
A#1 LAWS of Credit in the Philippines [ more to
the advantage of the debtor]
a. USURY Law [CA 2655]

-
b. TWO INSTALLMENTS DEFAULT Rule Under
Civil Law [Art. 1484, RA 386]
- At least two installments must be overdue before
sale payable in installments can be cancelled
c. NO DEFICIENCY Judgment Rule in Foreclosure
of Chattel Mortgage
- In case the value of the chattel foreclosed is
less than the account, the judgment creditor
cannot recover the deficiency
d. Laws on Bouncing Checks
-

e. Court Procedures in Replevin Cases

- Sheriffs cannot seize property under mortgage
without a court warrant of seizure [ expenses
includes a bond to the court]
f. Justice System
-

A#2 CREDIT & COLLECTION UNIT

Primary function: maximize profits and

minimize bad debts losses through proper credit
evaluation of each application and through
efficient and consistent collection follow-ups
Maximize profits
a. Maximize sales

b. Cooperation with other departments

Credit Department as a Profit Center

1.Support to sales effort

- Sales increase against accounts receivables

2. Customer counseling
- Wise counseling leads to saving of many
customers and preserving profitable sales
3. Contribution to finance
- To insure continuity of business operations

4. Task force assignments

- Assignments outside of credit function
A#3

Credit - refers to the processing, evaluation and

extension of credit
Collection - refers to activities related to collection
of accounts
#4 The Credit Manager
- Responsible for:
a. the formulation of credit policies

b. administration of credit operations that will

maximize sales & profit, minimize loss & maintain
a satisfactory turnover of investment in account
receivables
 Research into economic conditions & business
practices
 Establish policies, procedures & practices with
respect to sales terms, financing arrangement,
types of credit & use of capital
 Must make contribution in the overall company
planning
 directs all credit & collection activities and
responsible for the interpretation and application
of policies
 Plans, executes and coordinates programs for
the operation of the credit department
 Approve major credit extensions, decide
borderline cases, reactivate dormant accounts
Lower position:
 Extension of credit in analyzing requests

 Conducting credit investigations

 Evaluating credit risks

 Setting credit limits

 Referring credit to higher authority

Operational Management

- gather, organize and retain detailed information

pertinent to accounts
- Judgment and discretion, fair & just in his dealings

Departmental Management
- Risk research and appraisal

- Credit extension & collection supervision

- Office management

- Personnel selection & training

- Contact with other departments & institutions

Cardinal C’s of Credit Personnel

1. Competence & capability – awareness of the

area of responsibility
2. Communication - ability to convey his ideas:
reports, correspondence, delegation of duties &
corresponding authority to subordinates
3. Constructiveness - approach must be positive
and constructive to both credit and collection
management
4. Creativity - concerned with creative answers
to questions on marketing & finance
5. Conscientiousness - serve as a catalyst of the
members of the credit team: cooperation,
coordination
6. Consistency - performance is consistent with
company goals and objectives, policies & guidelines
7. Certitude & celerity- credit checking, analysis,
evaluation & appraisal must be done with certainty
& accuracy
8. Contact - within and outside business organizations
9. Cost-consciousness - minimum production cost
in credit evaluation, remedial account management
10. Character - must have honesty, integrity &
reliability
11. Confidence - debtor should also have trust &
confidence in his creditor
12. Computer literate - basic knowledge of the ins
& outs of information technology
13. Congeniality - pleasing personality,
composed & deliberate but firm and
uncompromising
14. Considerateness - lm,./consideration in dealing
with clients
15. Common sense -
#5 Credit and Collection POLICIES

Reasons why Credit Business is Good Business

1. do most of their trading with stores where they
have an account
2. Not so price-conscious as cash customers

3. Do not shop around so much

4. Easier to make a sale

5. Among the best people in town

6. Advertise merchandise, service & quality – not

conscious with promotions
7. Stay with a store for a longer period of time
8. Customers with Credit limit kept within become
good accounts
9. Marginal cases can be induced to pay their bills
promptly
10. Accounts not paid on due date have penalties
11. Credit customers are your customers; cash
customers are anybody’s customers

Installment
- Helps small marketers to increase their sales &
profits; can give an edge
- Carries certain operating expenses
QUESTIONS Marketers Need to Answer before
Offering Installment Selling
1. what goods am I offering
2. What type of credit do my customers want
3. What are my financial resources
4. Are my competitors offering installment credit
5. What laws regulate installment selling

Process: downpayment
term: 90 days or longer
signs a contract
FACTORS Affecting Decisions

1. Kinds of goods sold – durable items with

repossession value
2. Customer’s desire
3. Financial resources available – turn-over of
money is longer
4. Action of competitors - offer better payment
schemes
5. Regulatory laws -
POLICIES of Installment Credit

1. Goods to sell
- Confine to high value lines considered as major
purchase
2. down-payment
- The lower the down-payment the greater is the
collection expenses, repossessions & losses
- The greater the down-payment the greater is
the customer’s sense of ownership
3. Amount and schedule of payment
- Amount and time should be in relation to
customer’s income & other debts
4. Installment terms
- should be as short as possible
adjusted to the useful life of the goods
5. Carrying charges
- Sometimes referred to as finance charge or
service charge
- Discuss the prepayment privileges & refunds

6. Credit investigation
- Allows refusal of undesirable credit risks before
sale is made
7. Form of contract
- Allows repossession of the item in case of default
of payment
Check laws on:
a. filing & recording requirements
b. conditions to repossess
c. costs
d. other provisions
8. Expenses and Profits in Installment selling
Expenses:
a. Manpower salaries

b. Office space, supplies & utilities

c. Collection & repossession expenses

d. Interest on capital
Credit Plan:

1. Forecast of the credit & collection

2. Objectives – a percentage of sales allocated for
credit & collection expenses
3. Design credit policies & procedures
4. Programs to meet objectives: qualify & quantify
collection targets
5. Budget for the operation
Thus credit department:

1. Decides on the financial responsibility of

customers
2. Determines the terms of credit
3. Approves credit & collects them

#6 FINANCING Installment Accounts

 Carrying own Accounts Receivables

- Carrying the AR takes more cash
Selling the Accounts Receivables

a. Finance company
b. Commercial bank

Determinants:
a. Gross profit

b. Ability to get cash cheaper than the discount

charge
c. Extent of other expenses

d. Volume of installment sales versus cash sales

Three ways to sell Installment Paper:

1. non-recourse plan – firm is not responsible

if customer defaults in his payment;
repossession is the responsibility of the bank.
2. Recourse plan of repurchase – the firm is liable
for any unpaid balance & responsible for
repossession, reconditioning & reselling
a. With full recourse - total amount of receivables
sold may be collected from the seller in case of
non-collection
b. With partial recourse – seller guarantees
collection of a stipulated amount and pays the
uncollcted receivables
Other sources of funds

1. Internal accumulation of funds

2. Borrowings
3. External accumulation of funds
4. Conversion of assets into cash
5. Mergers or tie-ups

#
#7 Recording & Accounting in C&C

Accounting Receivables
 Open accounts with customers arising from the
sale of goods & services
 Known as trade debtors or trade receivables

 Trade accounts that are expected to be

converted into cash
 Title of goods passes to the buyer

 For services: the portion of work completed

Non-trade Receivables

a. Claims arising from the sale of securities or

property other than goods or services
b. Advances to stockholders, directors, officers,
employees & affiliated companies
c. Deposits with creditors, utilities & other
agencies
d. Purchase prepayments
e. Deposits to guarantee contract performance or
expense payment
f. Claims for losses or damages
g. Claims for rebates & tax refunds

h. Subscriptions for capital stock

i. Dividend receivables

Documentation
- Documents serve as tools for collection
Required documents: AR
a. Credit application duly filled-up and signed
b. Approved credit line: limit & T&C
c. Purchase order/ letter order/ purchase
requisition/ telegram orders/ sales order/ vale
slip duly signed by authorized signatories
Required documents: notes receivables

a. Credit application duly filled and signed

b. Approval letter/memo
c. Promissory note duly signed

Collaterals
1. Chattel mortgage 7. pledge
2. Real estate mortgage 8. cash deposits
3. Surety agreement 9. guaranty
4. Surety bond
5. Deed of assignment
6. Letter of credit
Recording of AR / NR

- With subsidiary ledger for each account

- General ledger for summary

Dr – amount of invoice sold

Cr – payment, discounts, refunds

Statement of Account
a. Monthly statement
b. Detailed statement
c. Reconciled statement
mt#8 MONITORING & CONTROLLING the C&C

Required accounting documents

1. Aging of AR
- Accounts are aged from due dates regardless of terms of
payment: 0-30, 31-60,61-90, 91-180, 181-360, 360 plus past
due
Aging analysis:
a. Per branch outlets
b. Per product lines
c. Per dealer
d. Per regional or collection areas
e. Per extent of credit and collection control
2. Statement of Account for each
a. In terms of amount

b. In terms of number of accounts

OR
a. Per branch outlets

b. Per product lines

c. Per dealer
d. Per regional or collection areas

e. Per extent of credit and collection control

Analysis of Receivables

- Computation of accounts receivables turnover

ratio: relationship between the average balance
of the book of accounts and the credit sales for
the period
- Bad debts, adjustments for returns and
allowances must be deducted prior
Ex. Credit sales for the mo. – P90,000
average daily balance - 45,000
Monthly turnover = 2 or 200%
Significance - ?
Determining the Efficiency of the C&C System

1. Collection efficiency - percentage of money

collected as against the outstanding
2. Aging of accounts receivables – percentage of
past due accounts against the outstanding
3. Turnover - receivables versus total sales
[ compare with competitive & related industry
sources]
1. Bad-debts-loss ratio – ratio between total credit
sales/loans versus bad debts
Accounts Receivable Performance Indexes

1. Turnover
2. Collection efficiency
3. Aging analysis
4. Bad debts
- The uncollected amount due to a customer’s
inability to pay because of bankruptcy, gone
out of business, assets have been liquidated,
with out-of-court arrangement with their
creditors
- Exceptions: product claims, pricing
discrepancies, back charges
5. Bad debts reserve
- must be established according to
current practices & reviewed periodically for
changes
6. Bad debt write-off
- Deemed uncollected, previously recognized as
‘doubtful’ after a collection effort has been
made
- Recommended by the credit manager

Corrective Measures:
a. Review credit policy and standards
b. case-to-case review of delinquent accounts

7. re-organizing, revitalizing, resetting

a. Hire additional personnel

b. Train staff to improve respective skills

c. Overall objectives could affect credit policy

d. The company might have a high level of

inventory it wants to unload
e. It might have obsolete stocks which could be
disposed of at greater risks or at lower prices
f. Competition
g. Tighter money situation
Part II PRACTICES & PROCEDURES

#1 Credit Application and Other Requirements

Credit application form:

- Initial credit information

- Leads to start credit investigation

- Information on which to further interview the

applicant
Required Documents for Loan Processing

Individual/ single Proprietorship

a. DTI certificate

b. Mayor’s permit

c. Municipal or city license

d. ITR

e. Audited/unaudited FS
2. Partnership

a. DTI certificate
b. Articles of Partnership [with the SEC]
c. Audited & unaudited FS
d. ITR
e. City license
f. Resolution of the partnership authorizing the
negotiation of the loan
3. Corporation

a. DTI certificate
b. Articles of Incorporation & By-Laws [ with SEC]
c. Audited & unaudited FS
d. List of stockholders
e. List of incumbent officers
f. Board resolution [with Corp. Sec.’s certification
g. Business license
h. Alien registration certificate of alien officers
For Purposes of Inspection and Appraisal:

1. Real estate
Titled
- Copy of the title
- Location plan
- Tax declaration: lot & improvement
- Latest realty tax receipts
Properties under Administration

a. Letter of administration
b. Court order authorizing the guardian to
mortgage the property of the minors & sign all
credit documents

Interstate Estate
a. Appointment order of the administrator of the
estate of the deceased [P.U.A.]
b. Effect an extrajudicial partition of the estate
and transfer ownership in the name of the heirs
2. Chattels [with affidavit of ownership]

a. Machineries & equipment - number of units,

location, description of each, evidences of
ownership
b. Office furniture & equipment - -do-
c. Motor vehicle - LTC registration, OR
d. Merchandise inventory - description, # of units,
price for each
3. Pledge on Shares of Stocks/Marketable Bonds
a. Stock certificate/ bond

b. Audited FS of issuing company

4. Assignments on cash deposits
a. SA, TCD, BA
b. Letter of credit
5. Signatories
a. co-maker’s statement
b. ITR

#2 Credit Interview
Importance
- To obtain, confirm and verify information about
the applicant which is reliable, acceptable and
complete to facilitate sound credit decisions
Determine the following:
1. Old enough to qualify

2. Mature enough to understand the responsibility

3. Recognizes the seriousness of the obligation

4. Regular income for the repayment

5. Financial condition

6. A need for endorser or security

7. True identity and status

8. Neighbourhood reputation

9. Credit experience
Factors to consider:

a. Income
b. Employment
c. Payment record
d. Residence
e. Marital status
f. Age
g. References and reputation
h. Reserve assets
i. Equity in purchase
j. collateral
Apollo2.2
Preparing for the Interview
1. Plan ahead – know what you are looking for

2. Know the account

3. Plan & schedule

4. Eliminate interferences – observe courtesy

5. Appreciate differences – use sound principles

when interviewing
6. Know your personality

7. Time – consider the needs, the must of knowing

the account & its requirements
#4 Sources of Credit Information

1. salesman’s reports
2. Customer supplied info
3. Bank information
4. Credit interchange
Credit reporting agencies
1. Interchange bureaus
2. Court and securities & exchange commission
3. National and local newspapers

Credit data Bank – where data and credit

information are stored
#6 Appraisal of Real and Personal Property

Appraisal

- An estimate or opinion of value in writing of a

described property as of a specified date and
supported by a presentation and analysis of
factual and relevant data
Purpose: to find the market value
find also the: insurable value,
going-concern value, liquidation value,
assessed value

Appraisal functions:
1. Related to transfer of ownership

2. Related to financing and credit

3. Establish just compensation in

condemnation proceedings
4. Repossession or foreclosure of collaterals
Appraiser’s main job: verify
ownership and determine actual possession

Factors on Account of the Market Value:

1.Comparison with the most recent sale in the
same area
2.Estimates of residents in the area
3.Opinions of other appraisers from financial
institutions
4.Recent published foreclosures
5.Zonal valuation of the BIR
6. Most recent loan amount granted

Cite example

– foreclosed property is P3M/ P3.7M

- Zonal valuation: 1K sqm - P1.9M

Note: Improvements are to be Appraised

depreciated over 25 years
Cite example
Cases of Fraud or Deceit in Collateral:

1. Spurious titles
2. Property claims on government lands

Examples
Part III Credit Evaluation, Financial Analysis
and Credit Decisions

Credit Evaluation – the process of finding out via

proper analysis of what constitutes the degree
of risk the company is willing to undertake

Credit Investigation
1. Personal interview

2. Documentary verification

3. Inquiry from third parties

Credit Investigation Report [CIR] – report for the
necessary credit information

CREDIT POLICIES

Policy - general statements used as guides for

the organization
- a reflection of the organization’s
philosophy
-
General Policies on Credit

1. Approval authority
2. Credit limits
3. Loan-to-market value ratios
4. Past due limits
5. Territorial limits
6. Single proprietor vs. corporation
7. Other side agreements imposed by lender
8. Separation of credit from marketing operations
1. Approval authority
- Is based geographically or rank/title

Significance - ?

2. Credit limits
- The maximum amount that could be granted
to one borrower
Ex. – single borrower’s limit
purpose - ?
Determinants for a credit limit:

a. Average total purchase amount per customer

per order
b. Nature of the product being sold
c. The geographic distance between the branch
and the approving authority
d. Nature of the company’s competitors
e. Credit quality of its customers
3. Loan to market value ratios

Secured loans: represents the maximum loan

that could be granted based on the property’s
market value

Durables: pre-established as the difference

between the retail selling price and
downpayment
4. past-due limits

- Imposed as a performance measurement tool

of branches
- Banks’ PD limit is 25%

5. Territorial limits
- Areas where credit could be granted

Factors: peace & order, availability of public

transportation, prevalence of crime, travel time,
road conditions
6. Single prop vs. corporation

-Unlimited liability vs. limited liability

Corporation: board resolution, principally
liable

7. Separation of credit from marketing operation

Marketing: to sell
Credit department: to ensure that credit
resources are used properly
Loan PAYMENT TERMS

1. Pay on demand
2. Payment required after completion or
occurrence of an event
Ex. COD

3. Payment required after merchandise is sold

a. Consignment only
b. Trust receipt – PD 115
4. Payment with specific due dates
- Due dates in calendar days
- Fixed for one year with renewal
- Payments after availments
- Interest only and balloon payment at the end
of term
- Amortized payments of equal amounts
- Graduated payment schemes
- Decreasing payment schemes
- Acceleration clause
 Factors to consider in determining the term:
1. Nature of the product
2. Seller’s mark-up
3. Loan value vs. market value
4. Terms used by competitors

Questions:p141
INTEREST RATES

Art 1956 - No interest shall be due unless it has

been expressly stipulated in writing
Art. 1959 - Interest due and unpaid shall not
earn interest. However, the contracting parties
may by stipulation capitalize the interest due
and unpaid which as added principal shall earn
new interest

Simple and Compound Interest

Principal Interest Balance
1 – P10,000 P1,200 P11,200
2- 11,200 1,200 12,400
3- 12,400 1,200 13,400
Compound interest

Principal interest balance

1 – P10,000 P1,200 P11,200
2- 11,200 1,344 12,544
3 - 12,544 1,505 14,049

Modes of Interest
1. Simple interest

2. Add-on interest rate

3. Compound interest – amortized

4. Fixed rate and variable rate

Simple interest
Example: NR, ER

 Add-on interest rate

- For consumer loans

Ex. Retail price - P10,000

down payment 2,000
amount to be financed 8,000
Add: interest @ 3%/ mo x 30 mos. – P7,200
Amount due P15,200
Divided by 30 months P506.67
Period 3% 4% 5% 6%
1 .971 .962 .952 .943
25 17.413 15.622 12.783 11.654
30 19.601 17.292 15.373 13.765

Objective: match the present value of future

installment
 Compound interest – Amortized

Loan: P100K ER – 18%p.a.

Annuity table

Pd 17% 18% 19%

.855 .847 .840
4 2.743 2.690 2.639
5 3.199 3.127 3.058
Result: annual amortization
 Fixed and Variable rates

Fixed - does not change during the credit

period

Floating/ variable rate – interest rate varies with

the prevailing rate
5 C’s of Credit

1. Character
- evaluation of the borrower’s integrity,
reliability & moral character
- look at his social/family background,
education, vices, habits & personal traits,
credit history
- No credit history: attachment to the
community, job or business, thing
purchased
2. Conditions

- the general business condition in particular

industry in which the applicant is engaged

3. Capital

- the financial strength or networth

of the person or business
- how much of the owner’s money is at
stake relative to that provided by creditors
4. Collateral

- the property used as mortgage to secure

the loan
Purpose: ?

Effect of over-appraised property?

Collaterals accepted: ?
5. Capacity
2.
- a person’s wise use and control of credit
funds and his ability to pay
- this includes a judgment about management
itself
Views:
a. Employed applicant: disposable income vs.
the monthly installment
b. Self-employed: net income, stability of the
enterprise, management capacity of the
owner
c. corporation: management abilities of
executives, marketability of product lines,
stability of the enterprise, technology used
Case problems:
Employed
The applicant, Rosa Rosal with one child in
Grade 3 at a Catholic school has only one
source of income
Gross income per payday P10,000
Deductions 2,000
Loans 500
Union dues 100
Self-employed

Same example: personal living expenses,

disbursements, monthly installment the same.
The applicant owns a feed store with the
following information:

Daily sales, feeds P7,000

Daily sales, medication 1,000
Gross profit, medicines – 15%; feeds – 18%
Feeds [50kg bag] costs – P430.00 sold P10.50
per kg.
Corporate business

Mega corp. 2010 2011 2012

NI after taxes 102K112K124K
Mega applies for a loan that requires 5 annual payments
of P97,000 amortized
Q: is it possible? Considering the NI; DI/MI

Net income after taxes P124,000

Projected income from proposed 100,000
Sub-total 224,000
Loan amortization 97,000
DI/MI ratio -?

Non-quantifiable indicators:
a. Quality of machinery, equipment,
technology
b. loyalty of customers

c. Quality of inventory

d. Ownership of patents and copyrights

e. Competence of officers
#2 Financial Analysis

Short –term loan: current flow of funds

Long-term loan: earning capability [past and
present]

Liquidity Ratios:
a. Current ratio- Current Assets/Current Liabilities
- it indicates the extent to which the claims of ST
creditors are covered by assets of which
maturity corresponds to the maturity of the
claims
CA: cash, marketable securities, accounts
receivables, inventory
 CL: accounts payable, ST notes payable, income
taxes payable, accrued expenses

b. Quick ratio – CA – Inventory/ CL

- a measure of the extent to which the company
could pay off its ST obligations without relying on the
sale of inventories

c. Acid Test ratio - cash + GS + cash equivalent /

CL
- a measure of liquidity by eliminating inventory and
AR which have greater potential shrinkage in value
upon liquidation
d. Cash velocity - cash + cash equivalent /
yearly sales
- indicates the number of times cash has been
turned over in conducting operations during the
year

e. Cash to cash payments - cash + market

securities / average daily cash payments
- indicates the number of operating days which
the company could sustain without replenishing
its cash and near-cash accounts
f. Inventory to working capital - variable / CA – CL
- shows the proportions of net CA
- indicates the potential loss to the
company from declines in inventory values

g. Receivables to sales - AR/ credit sales

Receivables: trade accounts receivables, trade
notes receivables
- A lower ratio indicates a more rapid collection of
sales during the period and greater liquidity of
the receivables
h. Payable turnover - average AP / total purchases
- indicates slowing up or speeding up a
payment

Leverage Ratios
- Measure the contribution of funding by owners
compared with the financing provided by
creditors of the firm
a. Current liabilities to net worth - CL / TA-TL
- High ratio indicates ST gap financing
b. Coverage of Fixed Charges - Net Profit before
IT / Fixed Charges
- Measures the extent of the decline in earnings
without resulting in financial embarrassment due
to inability to meet annual fixed cash outlays

c. Debt-to-Equity ratio - total debt / total

equity
- Measures the firm’s obligations to creditors in
relation to the funds provided by the owners
d. Fixed Assets to Networth - Fixed Assets /
Total Assets – Total Liabilities
- Shows the extent to which ownership funds are
sunk in assets with relatively slow turnover

e. Debt to Assets ratio - total debt / total assets

- The extent of debt financing provided by
creditors
Proper Use of Ratios

Standards used in Ratio analysis:

a. Absolute - generally recognized as being
desirable regardless of the type of company,
time, stage of business cycle
b. Past record - either conditions are constant or
varied become standards for current or future
operations
c. Other companies or industry average - useful
in indicating areas whether further analysis and
study should be made
Issues: no two companies are alike
varied accounting method could lead to
differences in ratios
variability of product mix, geographic
location, corporate objectives lead to a lack of
comparability

d. Budgeted standard - budget is the

statement of what the company intends to do
during a stated period of time
Selective Uses of Ratios

1. ST creditors
- Concerned with the ability of a borrower to meet
current obligations promptly
- Current ratio, acid-test ratio, turnover of
inventory & receivables
2. LT creditors
- Interested in the working capital position to
indicate ability to pay principal and interest
- TL to OE, OE to TA, FD to NWC, FA to OE, FD
to TC, FA to FD
3. Management
- the above ratios, comparative for a
certain period and the situation of competing
companies in the same industry indicates if
performance improvement is possible

4. Stockholders
- shareholders are interested in per share
ratios; rate of return and yield, capital
appreciation measured by market value
#8 Account Management

Aging of Accounts
- Refers to the age in relation to the due date and
the account is classified according to current or
past due
Ex. P179

Note:the higher the ratio of the accounts that are

current, the better is the overall health of the
accounts
the older an account gets the more difficult it is
to collect, the lesser the probability of recovering
Collection Policies and Procedures

Legal basis: article 2236 of the PHL Civil Code

“the debtor is liable with all his properties,
present and future, for the fulfillment of his
obligations”

Causes of Non-payment
1. Natural calamities

2. Unrealistic payment schedule

3. Unproductive investment
4. Unproductive expenditures
5. Extended hospitalization w/o health
insurance coverage
6. Large educational outlays
7. Death of family provider w/o life ins
coverage
8. Product defects
9. non-compliance with warranties
10. Constant breakdown and inefficient repair
service
General Collection Policies

Consideration:
1. immediate recovery of the credit granted
2. Appliance industry: ER is 50%-70% per year
Reason: high cost of collection
higher bad debts risk

Areas where collection policies have to be

formulated
1. Hiring of collectors
a. Job requirements
b. Protection against the loss of cash collections
thru selective hiring and surety undertakings
c. Customer orientation

2. Procedures in the handling of collections

a. Collection for cash

b. Other collection techniques

3. Surcharges and penalties

4. Field motorized collection vs. collection letters
5. When to send collectors/collection letters
6. Collection incentive program
7. Insurance policy to be assigned by debtor

8. Using service charges

9. Use of ‘acceleration clause’

Type of intensity of collection effort:

1. Reminder stage

- Statement of account, communication via

technology
2. Request stage
- Installment account: polite approach by field
collector; bank loan – reminder letter

3. Appeal stage
- Installment account: strong reminder by field
collector; bank loan – strong letter of appeal
[penalties, surcharges]

4. Threat stage
- IA: threat of repossession or legal action;

- Bank loan: threat of foreclosure

5. Friendly efforts at recovery
- IA: deposit at the branch
- BA: ch 10

6. Drastic recovery efforts: repossession,

foreclosure, attachment, garnishment

Collection Goal:
Total amount that must be collected to bring all
accounts up-to-date or in current status
#10 Recovery of Credit Granted

Assumptions:
1. Credit transaction has been consumed

2. Complete transfer of possession [by delivery]

or both ownership and possession
3. The seller has discharged with his obligation to
deliver a determinate thing but the buyer
refuses to or cannot pay
4. no product defects or violations of warranties
on the part of the seller
Factors that determine what recovery efforts to
undertake in case of non-payment
1. Nature of the object of credit

2. Loan is secured or unsecured

3. If secured, nature of property used as security

4. Nature of the documents used

5. Nature of the relationship between buyer and

seller
6. Nature of the lender/seller’s main business

7. Special circumstances attending the sale or

credit transaction
Friendly Recovery Efforts

1. Term extension
2. Merchandise return on swap
3. Condonation of penalties or swap
4. Restructuring: simple, document substitution
5. Deposit of durables, movables
6. Debtor substitution
7. Decion en pago
8. Addition of guarantor or surety
9. Securitization
Condition: debtor is willing to pay

1.Term extension
- Extra time to tap his resources and make
settlements of obligation
2. Merchandise return swap
- For unsold merchandise, the wholesaler-
creditor could take back the merchandise
[change it with new ones]
- Seller protects his business relationship with
the buyer
3. Condonation of properties and surcharges
- non-collection of penalties and surcharges or
interest in exchange of the full payment of the
account
4. Restructuring
Simple restructuring - terms are extended and
monthly payments reduced to affordable levels
Document substitution – change from accounts
receivable to notes receivable by signing a
promissory note
adv. A. strengthens the financial condition of the
creditor [more reliable]
b. PN could be used by the creditor to pay its
own debts or as collateral

5. Novation or change in the credit agreement

Merchandise credit – creditor takes back
ownership of the goods. Change contract to
trusteeship under PD115
6. Deposit of durables and movables at the
branch office
- Buyer deposits goods purchased in installment
payments at the branch store and suspends
the surcharges and penalties
7. Debtor substitution
- Debtor is replaced by another debtor who is
reputable
- Requires new documentation which will
extinguish the old obligation and create a new
one

8. Dacion en pago
- If there is a collateral to the loan, debtor sells the
property to the seller based on near market
value
8. Addition of guarantor or surety
- Creditor believes that the debtor has financial
difficulties, another guarantor or surety is
recommended
- Objective is protection of the creditor’s
asset/principal

9. Securitization
- Applies to unsecured credit obligations

- Creditor requests for a real estate or personal

property as security
Adv.
a. Protection of asset or safety of the principal

b. There is a specific collection time frame and

may readjust his own resources

Drastic Recovery Efforts

Type of credit
Type of credit
Cash loan, unsecured
Merchandise credit,
unsecured
Consumer durables, I
Movables, CM
Trust receipt
Real estate sale on I
Loan secured by real estate
Credit obtained thru deceit
options
Court order, levy,
garnishment, replevin
Do
Sum of money, cancellation of
sale, repossession, replevin
Foreclosure, replevin
Criminal prosecution
Cancellation of the sale
foreclosure
Criminal prosecution