MODULE II

CREDIT MANAGEMENT

Lesson 1 Importance of Credit Management

Lesson 2 The Credit Department

Lesson 3 Credit Policy and Credit Process

Lesson 4 The Principal Objectives of Credit

Management

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MODULE 2

CREDIT MANAGEMENT

 INTRODUCTION

This module discusses the importance of credit management, policy

and processes. Discussion in this module also include the objective of
Credit management.

OBJECTIVES

After reading this module you should be able to:

1. Know the importance of credit management;

2. Understand the nature and concept of credit management;
3. Learn the credit policy and process; and
4. Know the principal objectives of credit management.

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Lesson 1

 Importance of Credit
Management

Capital is said to be the lifeblood of business enterprises. Not enough

capital coupled with lack of initiative and poor technology leads to
inadequate production.
Inadequate financing to the needs of the economy results to low
investment and low production. Low production means low goods and
services to the people, less employment and less consumption.

Technology and financing are vital factors to increase production,

income and employment. These factors led to the development and
prosperity of industrial nations like Japan, America, Germany and other
European Countries. For developing countries like the Philippines,
needs investment to boost the economy, increase production and
increase employment. Businesses should have enough capital to
improve/upgrade its technology to increase production in order to
cater the needed goods and services of the people.

Granting credit to finance businesses, if properly used and well

managed, could eliminate poverty. By means of credit, means more
productive, more economic activities and accelerate economic growth
and progress.

The Credit Man in the Business World

The credit man can be compared to a clerk or bookkeeper whose

job is keeping records of the financial transactions of the firm’s
customers. He has an important contribution to the successful
operations of the company. He makes recommendations based upon
the investigations, studies and analyses whether credit would be
granted or denied.

Failure in his part to discharge properly the task and

responsibility could adversely affect the business world in general.
Lack of care in the grant of credit will not only trigger losses for the
business concern but, at the same time, result in a diminution of credit
to those who are deserving and are actually entitled to it. Laxity could

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mean bad debts cluttering the books of accounts of the company

which are difficult to collect.

On the other hand, the overzealousness of the credit man to

prevent losses for the company and thus become overly strict with
respect to the grant of credit could generate the loss of customers and
consequent reduction in the volume of business. Thus, it is correct to
say that a credit man must be a student of trade and business
equipped with thorough understanding of the prevailing economic
conditions and their implications. He must have a keen foresight into
future conditions that affect business in one way or the other.
According to Beebe and Morton, the credit man “has within his power
to drive old customers away just as he could help educate the stubborn
customers as to earn their everlasting goodwill.”

Efficiency of the Credit Man in His Work

It is difficult to judge the effectiveness of the credit man in the

performance of his task. It may be true that bad debts ar5e held to the
minimum, however, such cannot be a safe gauge if at the same time it
has resulted in a small volume of business. Thus, it is important as
well as necessary, in the case of a retailing or wholesaling
establishments to know how many orders were refused as well as were
accepted.

It goes without saying that it is far easier to refuse orders than to

select reasonable risks or to handle doubtful customers in such manner
that they will be futures boosters for the company. Different cases
must be treated in different ways.

Advantages of Credit

1. Credit facilitates exchange.

2. Credit increases the volume of production.
3. Credit eliminates the risks involved in making payments to
distant places.
4. Credit economizes the use of coins and paper money.
5. Credit eliminates the danger of being robbed of large amounts of
money.
6. Credit makes possible the accumulation of small savings and
their employment for productive purposes.

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Disadvantages of Credit

1. Credit facilitates the over-expansion of business activity which

might lead to recession.
2. A too liberal credit encourages extravagance.
3. Credit sometimes increases business risks.
4. Easy borrowing by the government often led to the wasteful use
of public funds.

Important Reminders

1. Credit management is important because it will insure the close

collaboration between granting credit and collection. It help
minimize the risk of loss due to default of payment.
2. Credit risk is the risk associated with granting of credit. It is the
non-payment of loans of the borrower.
3. The significance of credit management is that they are done to
avoid risk and loss on the part of the lender or creditor or any
other business firms.
4. Credit Management Association of the Philippines (CMAP) is
important because it inculcates credit consciousness, in the
public’s mind. It places the credit man in his proper place as a
professional and it infuses credit discipline to the greater mass of
people.
5. Competent, efficient and effective people are necessary in order
to have a sound credit management.

LEARNING ACTIVITY

Name: _____________________________________ Date: _______________

Year/Block: ________________________________ Score: ______________

We all know that the Philippine Government has billions if not trillion of
debts to finance its programs and projects like the build, build, build
program of the Duterte administration. Explain “easy borrowing by the
government often led to the wasteful use of public funds.”

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Lesson 2

 The Credit Department

The credit department does not grant or extend credit. Its task and
responsibility revolve around the gathering of all credit information
about the applicant and assembling them in such a way that they
could be of help in properly guiding the loan officers in their
assessment and analysis for purposes of establishing correct rating.
One overriding factor which the credit department must give weighty
consideration is, not only on the degree of profitability to be derived
from the credit operations, but also it influence as a booster in the sale
of other goods of the company.

Large establishments which sell goods or services on credit

maintain credit departments which attempt to evaluate the paying
capacity of present and potential customers on the basis of information
gathered and analyzed. Credit and sales departments must cooperate
closely with each other. The effective use of credit and the proper
application of credit management help develop business operate on a
sound basis.

In case of banks, the credit department collects and files

available information concerning people or firms that borrow money.
Its main work consists of investigating, assembling, analyzing and
recording credit information for the guidance of the loan officers of the
bank. The officers use the information in processing loan applications
and reaching decisions with respect to actions it will choose to take.

The functions of credit department of a bank consist of a

systematic and judicious collection of data respecting the financial
responsibility, character, antecedents and business qualifications and
abilities of the bank’s customers, the classification of data on each
customer in chronological order, and their systematic preservation for
future reference and comparison. An orderly and well-arranged credit

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file will immediately disclose at a glance the entire career and present
business standing of any customer.

The credit department of banks furnish a valuable and

indispensable service for customers and friends of the bank by making
credit information available for them under proper circumstances.

The Credit Manager.

The credit manager is a man who occupies a very important

position in the structure of a credit economy but least talked about
outside the world in which he lives. His decision rests the success or
failure of a credit granting organization. In other words, he is the
credit investigator, credit appraiser, credit supervisor and credit
manager rolled into one. A real good and capable credit manager,
owes his position to himself. His appointment is a tribute to the
organization he represents for having chosen the right man for the
right position.

Further, he is the head of a staff of trained, experienced and

capable men charged with credit work. A good credit manager is
progressive in his ideas and thinking. He should be devoid of
prejudices against and biases in favour of any man or organizations.
He should be morally upright and intellectually honest and must have a
complete knowledge of the facts surrounding every application for
credit, if he is to discharge his responsibilities well.

The Credit Work

The efficient performance of the credit work revolves around the

presence and cooperation of a staff of trained, experienced and
capable personnel whose task and responsibilities are delineated by
the kind of positions they hold in the department.

The job description of each staff is presented below:

A. Supervisor

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1. Handles the over-all supervision of his section or department.

2. Receives request for Credit Investigation Report/Appraisal report
and assigns them to senior credit investigators/appraisers for
completion and submission on a certain date.
3. Reviews, edits makes necessary corrections on the Credit
Investigation Report/Appraisal Report and assigns them to senior
credit investigators/appraisers for completion and submission on
a certain date.
4. Answers credit inquiries from banks, trade firms, bank clients
and other financial institutions.
5. Implements procedures and ascertains that all matters as well as
inquiries of importance are given priority.
6. Undertakes to maintain or improve existing relations with other
banking institutions and other sources of credit information.
7. Supervises the preparation of monthly reports on output.
8. Performs other related functions from time to time, such as:
a. Trains the new associates of the Section and counsels and
guides them in the performance of their jobs.
b. Prepares a list of assignments for each analyst. This includes
gathering of all data required.
c. Recommends to the department head promotions or merit
increase of staff within the Section.
d. Recommends to the department head, acquisition of financial
books, journals, magazines and periodicals relevant to the
improvement of analysis preparation.

B. Senior Credit Analyst

1. Assumes responsibility of the supervisor in his/her absence.
2. Concentrates on evaluation of Cash Flow Projections based on
the projected Income Statement and Balance Sheet and
Feasibility Studies of various companies.
3. Conducts an intensive research on the business projects of
industries for a more effective financial and credit evaluation
of Cash flow Projections and feasibility reports submitted to
the bank.
4. Works continuously on the revision of present and future
credit rating sheets of credit evaluation reports to cope up
with the changing economic/financial institutions.
5. Assist supervisor in discharging his/her duty in time of heavy
work load.

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C. Junior Credit Analyst

1. Assists senior credit analyst.

2. Studies financial statements and other documents submitted
by the client and prepare the following reports:
a. Credit Analysts and Rating. An evaluation of the financial
status of the client/company, industry standing, availability
of collaterals for evaluating credit worthiness of the client
and/or to pinpoint other bank services which can be
offered.
b. Financial Analysis. An analysis of the post-operating
performance of the client and may include a projection of
future performance.
c. Cash Flow Evaluation. An analysis and projection of cash
generation capacity and future cash requirements of the
client.
d. Project Evaluation. A complete study of the technical,
financial, marketing and management aspects of a client’s
project proposal, including effects of the project on the
economy as a whole.

D. Senior Appraiser

1. Receives and assigns requests for Appraisal Report to

appraiser(s).
2. Edits Appraisal Reports prepared by the appraiser(s).
3. Assists the appraiser(s) in carrying out their functions.
4. Conducts inquiries/surveys on the current market value of real
and other properties acceptable to the bank as collateral.
5. Performs such other functions as may be found necessary
from time to time.

E. Appraiser

1. Conducts ocular inspections of properties offered as

collaterals.
2. Sketches the vicinity and location of the property under
appraisal.
3. Verifies the authenticity of original/transfer certificates of
titles with the Register of Deeds.

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4. Summarizes in a report form findings on the ocular inspection

made on the properties offered as collateral.
5. Entertains inquiries/checkings of appraisers of other banks.
6. Conducts inquiries/surveys on the prevailing market values of
real and other properties acceptable to the bank as
collaterals.
7. Performs other functions that may be assigned from time to
time.

F. Senior Credit Investigator

1. Receives and assigns requests for CIR to credit investigator

and sets date of completion.
2. Initially reviews and edits CIR prepared by credit investigator.
3. Entertains credit inquiries from other banks and commercial
houses.
4. Occasionally assists credit investigators in carrying out their
functions.
5. Assists in the development of efficient and comprehensive
credit files.
6. Gathers information concerning other banks’ credit
procedures.
7. Performs other functions that may be assigned from time to
time.

G. Credit Investigator

1. Conducts checkings and evaluation of applicants for credit

accommodations as well as of existing clients.
2. Interviews co-makers and employers of applicants/clients to
verify data gathered.
3. Undertakes bank, trade, government and court checkings
regarding credit dealings of the applicant/s.
4. Prepares Credit Investigation Report, memos, letters and
other correspondence.
5. Assists collection group in locating the whereabouts of clients
with past-due obligations and real estate properties registered
in their names.
6. Conducts special investigations, surveys as per requests of
other department heads.

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7. Performs other functions as may be assigned to him from time

to time.

Necessity for Close Supervision

The necessity for considerable amount of supervision on the part

of the credit manager over his staff is quite apparent. Credit men
operate during much of the working time away from the home office
removed from definite and direct executive control. However, one
method which could make the credit men do their job, as expected of
them, is to give them a “deadline” for the case they have under
investigation and study.

Three important appeals for the use in attacking the problem of

supervision:
1. Pride in accomplishment.
2. Monetary reward for a difficult job done.
3. Commendation and praises.

Bank Appraisal Report – a bank appraisal report contains the

following information:

1. Subject of appraisal
a. Name of registered owner
b. Location of the property

2. Land identity
a. TCT number
b. Technical description
c. Lot number
d. Block number
e. Land area

3. Description of land
a. Shape
b. Frontage

4. Neighbourhood data
a. Commercial

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b. Semi-commercial
c. Residential
d. Industrial
e. Raw land
f. Others

5. Public utilities
a. Electricity, water, telephone, gas, etc.
b. Kind of transportation facilities available

6. Improvements
a. Full description of requirements

7. Valuation
a. Market and appraisal of land
b. Net value of improvements
c. Total appraised value
d. Recommended loan value

8. Encumbrances
a. Name of mortgages and amount
b. Others that might be annotated in the Original or Transfer
Certificate of Title

LEARNING ACTIVITY

Name: _____________________________________ Date: _______________

Year/Block: ________________________________ Score: ______________

If you were the Head of the Credit Department in a company, how

would you improve its credit system?

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Lesson 3

 Credit Policy and Credit Process

Credit Policy
The strength of credit power at any is a function of two factors
affecting the credit risk and consequently, the credit policy, namely:
factors external to the risk and the factors inherent in the risk.

The following are the external factors which influence credit

policy:

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1. The Business Cycle

Business activity is characterized by cyclical movement

consisting of four phases: prosperity, recession, depression
and revival. Certain business practices and policies might be
successful during the period of prosperity might prove disastrous
during a period of depression or recession. The credit policy
must change as business conditions modify the credit strength of
customers and clients.

Cyclical fluctuations are cumulative in their effects: the

forces of one
phase of the cycle generate the development of the succeeding
phase. Consequently, if a business concern is to survive these
fluctuations, it must admit its position to the conditions imposed
upon it. It is the task of the credit manager to determine
whether an applicant for credit has made the essential
adjustments and will emerge from the present phase of the cycle
in a condition as to operate satisfactorily in the succeeding
phase.

2. Banking Policy

Banking policy tends to affect credit policy by the effect

upon financial condition of the creditor and debtor; the creditor
borrows from his bank in order to replenish working capital that
is temporarily tied up in outstanding receivables, and debtor
frequently uses his credit with his bank in order to take discounts
and otherwise strengthen his credit position.

If commercial banks call in existing credit lines and reduce

the volume of new loans, creditors are deprived of a source of
funds upon which credit might have been granted to debtors.
The close relationship that exists between bank and trade credit
tend to move in the same direction.

The following factors tend to influence trade credit policies:

a. Size of credit lines
b. The length of bank loan terms
c. The level of interest rates

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d. The character of bank loans in respect to the use of

funds
e. Collateral requirements.

3. Monetary and Fiscal Policies

The objective of monetary policy is to influence the money

supply available to the economy as to minimize economic
fluctuations caused by irregularities in the flow of money and
credit. Monetary policy is conceived and administered within the
framework of economic conditions.

Fiscal policies affect the expenditures of individuals and

businesses through their effect on the expenditures of
government on the collection of taxes. The timing and character
fo both government expenditures and taxes are important as
well as the aggregate amounts involved. The management of
public debt may also have an important influence on the money
and securities markets.in general, during an inflationary period,
fiscal policies tend towards reduced government expenditures.
However, fiscal policies seldom as adjustable or as adaptable to
short-term changes in economic activity as are monetary
policies.

4. Local Economic Developments

Any development that influences the costs and sales

volume of a firm affects the firm’s financial condition and,
consequently, its acceptability as a credit risk.

For example, if an industrial concern, important to the local

community would move its plant to another locality, the loss of
employment opportunities and wages to the individuals might
convert a prosperous town into a depressed community.
Naturally, other business concerns would suffer from the
reduction of the purchasing power of their customers who are
dependent upon
their industrial employment for their income.

5. Condition of the Creditor Firm

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a. The financial condition of the creditor’s business determines

the extent to which credit can be accepted.
b. The competitive position of the creditor is a second factor that
influences credit policy.
c. Nature of the business.

Sources of Credit Information

1. Personal interviews
2. Personal references
3. Credit reporting agencies
4. Credit bureaus
5. Banks

To arrive at a sound judgment of customers, a credit manager

must know:

a. Whether the owners or managers concerned are honest and

intend to repay their debt;
b. Whether the history of the concern shows satisfactory
progress;
c. Whether current operartions and financial position of the
concern are sound.

In the formulation of credit policy, the officers are guided by two

primordial considerations:

a. The protection of depositors’ funds;

b. The production of a fair return for its lending and investment
activities.

The Following are the Steps in the Credit Process:

1. Initial discussion between lender and borrower. Borrower

expresses his intent to borrow while the lender explains the
terms, conditions and the requirement of the credit being applied
for.

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2. The borrower signs an application form, and an authorization for

the credit department to conduct credit inquiries; the borrower
also submits the requirements.
3. The lender conducts an initial interview, using the credit
application as guide, and evaluates the documents submitted.
4. The lender initiates information gathering and validation based
on the credit application, including posting and inquiry with a
credit bureau, if available.
5. The lender obtains information from other creditors in the area
and searches for other information not found in the credit
application.
6. Appraisal of property offered as collateral.
7. The credit evaluator organizes all available information.
8. A decision is made; approved, disapproved, oir pending for more
documents.
9. If disapproved, the applicant is informed.
10. If approved, the applicant is also informed and all
documentation is completed (signing of promissory note, chattel,
etc.).
11. Registration of chattel or real estate mortgage.
12. Amount being borrowed, or unit being purchased, is
released.

Upon completion of the credit process, the documents are

split into two:
1. One batch for the credit file;
2. For transmittal to the home office – for use in borrowing
from banks.

LEARNING ACTIVITY

Name: _____________________________________ Date: _______________

Year/Block: ________________________________ Score: ______________

In your own understanding, prepare a diagram of the credit

process.
Cite an example. (the borrower is a businessman and his
collateral is his business)

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Lesson 4

 The Principal Objectives of

Credit Management

Credit Management is not unlike the management of any major

business function which seeks the attainment of its laudable
objectives.

The following are the objectives of credit management:

1. Maximizing sales. More and more sales assure the company

with increasing volume of business and the continuous flow of income
and consequent receipt of profits. Accordingly, credit management is
charged with that important task: help increase the volume of sales
while maximizing losses. Increased sales and profits are the by-
products of a better understanding and skilful handling of all credit
functions.

When a business firm sells on credit, the important role of credit

management becomes altogether very apparent. The level of
management required for the administration of credit in any business
firm is determined in no small degree by the concept of the function
prevailing there. In some instances, credit is viewed as a simple
function of approving credit transactions and making the
corresponding collections. As the concept broadens, the credit phase
of the business embraces sales and finance policy and other top
management strategy and becomes a management responsibility of a
much higher order and of substantial magnitude.

2. Controlling the amount of receivables. The basis of

effective control is a plan for control based upon some realistic set of
standards. The best statement of the purpose of control is the simple
definition: “to assure performance in accordance with plans.” The
price of performance is everlasting follow-through. One of the skills of
leadership is the art of getting desirable responses and results for
individuals and groups in conformity with the established goals and
objectives. Hence, a necessary qualification of a credit manager is the
ability to review and appraise the operations of his department and the
performance of his staff in terms of desired results. Also, to maintain
conditions which encourage his staff to produce results to the best of
their abilities. Toward the achievement of these objectives, it is
necessary to develop, interpret and maintain effective controls and

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standards which will assist all concerned to: (a) project desired results
more accurately; (b) identify and forecast major trends that effect
significant credit activities; (c) determine the need for changes in
policies and/or practices; (d) detect credit problems, in time to take
corrective action before they become critical and conserve time and
effort on the part of all concerned.

A problem of establishing effective controls in the credit

department is to determine what is significant, the need for periodic
appraisal. This is so since the economic climate in which business
operates is fluid and complex. It is almost in a state of change or
subject to change.

3. Controlling costs of credit and collection. Every company

incurs expenses in the extension of credit and in the collection of
accounts receivables. These expenses include (a) bad debts, (b)
wages and salaries of employees charged with credit and collection
functions, (c) costs of funds tied up in receivables; (d) cost of fees and
dues for credit information; (e) charges incurred for outside assistance
in making collections; (f) rent for space occupied by credit and
collection personnel and (7) depreciation of credit and collection
equipment and furniture and fixtures.

Control of credit and collection expenses does not necessarily

mean minimizing expenses. Rather, it refers to cost per unit, that is,
decreased cost per unit of work, which results from improved planning,
direction and supervision. There are also expenses that are
unavoidable like cost of travelling and legal fees.

Importance of Credit Limits

Imposing credit limits could be a se4rvice to buyers on credit

since it could prevent them from falling hopelessly into huge debts that
they may not be able to pay regardless of the means they employ to
weed themselves out of such a precarious predicament. The creditors
may be doing them a favour which at the moment they do not realize.
The liberality of companies in granting credit pushed businessmen into
economic difficulties if not ruin. The liberal treatment accorded to the
businessmen by grantors of credit have worked against their interest
because of its undue influence on over expansion of business. Credit

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limits work as bars to over expansion of business. Hence, their

importance and necessity.

Types of Credit Limits

1. Quantitative credit limits – the maximum of credit which may be

permitted to remain outstanding on account. The amount is
determined by a proper analysis of the C’s of credit which is not
be exceeded.

2. Temporal credit limits – impose certain requirements which a

borrower or prospective debtor must comply before he could be
granted credit. It is defined as “that type of credit which does not
indicate the maximum amount that an individual or business firm
can obtain from the creditor-granting company as long as the
debtor is able to fully comply with conditions set”.

SOUND CREDIT MANAGEMENT

Sound credit management principles revolve around three E’s:

1. Estimation
a. All available sources of credit information must be tapped and
utilized so that a proper estimation of the credit risk can be
obtained.

b. For individuals who buy for consumption, character and their

ability to pay serve as important bases of credit. For business
concerns, it is the net worth and condition of the business as
well as reputation for paying their bills.

c. All credit information gathered and received must be kept in

strict confidence. Only those who are authorized must have
access to it.

2. Enforcement
a. Granting credit is but one phase of the credit function,
collection is another. Collection of accounts should start from
the moment they become due. There should be no room for
vacillation in so far as collection is concerned.

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b. The task and responsibility of every collection department is

to get the money due to the company. If the money can be
collected without offending the customer, doubtless, this
should be done.

c. Collection records must be kept and maintained and should

indicate when notices were sent; dates when calls were made
by collectors; payments made; balances due; and action
taken, if any.

3. Evaluation
a. Sound credit management principles dictate that results must
be evaluated against company policies and procedures.

b. If a situation should arise in the future which preclude good-

paying customers to discharge their obligations on time,
policies and procedures may be modified without losing sight
of company goals and objectives.

c. Records must periodically reviewed and kept up to date.

LEARNING ACTIVITY

Name: _____________________________________ Date: _______________

Year/Block: ________________________________ Score: ______________

Discuss briefly by giving an example the importance of credit limits.

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