Selling the product on credit

Sales on credit are inevitable necessity in the business world of today. No business can exist without selling the product on credit. When a firm sells goods for cash, payments are received immediately, and therefore no receivables are created. But when a firm sells goods or services on credit, the payment are postponed to future dates and receivables are created. The difference between credit sales and cash sales is time gap in the receipt of cash. From the point of view of business, selling on credit constitutes an investment. The business invests money in credit sales to earn more money by increasing sales.

Receivables are asset accounts representing amounts owed to the firm as a result of sales of goods or services in the ordinary course of business. It represents the claims of a firm against its customer and is shown on the asset side of balance sheet under title such as accounts receivable, trade receivables, customer receivables or book debts.

Debt involves an element of risk and bad debts. Selling goods on credit result in blocking of fund in accounts receivable, and therefore, additional funds are required for the operating needs of the business, which involve extra cost in terms of interest. Increase in receivables also increasing chances of bad debts. The goal of receivables management is to maximize the value of the firm by achieving a tradeoff between risk and profitability. The purpose of receiving is directly connected with the objective with the objective of making credits sales. These are achieving growth in sales, increasing profits and meeting competition. The overall objective of committing funds to receivables is to generate a large flow of operating revenue and hence profit what would be achieved in the absence of such commitment.