When goods are sold and cash is not received immediately but postponed to a future date then this is termed as credit sales.
A major portion of wholesale and retail sales in the United States is on credit.
As a result, some firms have a substantial portion of their current assets in the form of accounts receivable.
For example, at the end of 2019, Sears, Roebuck, and Company’s accounts receivable totaled over $15 billion, and IBM’s totaled over $6 billion.
The ability of these firms, as well as others, to collect these amounts affects their cash liquidity and financing needs.
In a cash-tight economy, this is an essential aspect of overall cash management.
The ability of a firm to collect its credit sales depends on
(1) the initial decision about to whom to extend credit,
(2) the particular credit policies of the firm such as the use of sales discounts or interest charges on unpaid accounts, and
(3) general economic conditions.
A firm obviously has more control over the first two factors than over the third.
In large firms, the credit department is charged with the responsibility of granting credit as well as subsequently collecting unpaid accounts.
In smaller firms, this responsibility often lies with the owner-manager.
In deciding whether originally to grant credit or to extend credit limits, the firm must obtain information about customers, such as their financial condition and past credit history.
This information can be obtained through credit applications and the services of credit rating bureaus.
If January 1, 2019, Mr. C sold goods worth $1,000, and cash is not received but postponed to Feb.1, 2019.This will be termed credit sales.
A credit sale is an agreement between a buyer and seller where the buyer can purchase goods or services on credit, meaning the buyer does not have to make payment immediately but rather at a later date.
Credit sales are beneficial for both buyers and sellers. Sellers benefit from an increased ability to sell more expensive items as consumers no longer need to make large upfront payments, while buyers benefit from being able to purchase products now and pay later.
No, setting up a credit sale is relatively simple provided that there is an agreement in place detailing the terms of the sale.
The primary risk associated with credit sales is nonpayment, meaning some buyers may purchase goods and services and not pay for them according to the agreed-upon terms. Additionally, there is also a risk that customers could default on their payments which can further limit a seller’s ability to make sales.
In addition to increased sales volume, offering credit sales can help build customer loyalty as buyers will appreciate not having to make large upfront payments or wait until they have saved up enough money for an expensive item before purchasing it. Additionally, allowing customers to purchase items on credit can help increase customer satisfaction as buyers can now purchase items with ease.
About the Author
True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.
True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.
To learn more about True, visit his personal website or view his author profiles on Amazon, Nasdaq and Forbes.
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