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Page 7 of 7 Credit Policy
Your company determines the number of days between transactions and payments. For example, your company could give customers 30 days to pay their bills (accounts receivable) while holding up payment to suppliers for 60 days (accounts payable).
Shortening the A/R (accounts receivable) lag from 30 to 15 days in effect extracts a loan from customers. Similarly, extending the A/P (accounts payable) lag from 30 to 45 days extracts a loan from your suppliers.
The accounts receivable lag impacts sales. If your company offers no credit terms, sales potential falls to about 65% of maximum. At 30 days, sales potential is 92%. At 60 days, sales potential is 98.5%. At 120 days there is no reduction. The longer the lag, the more cash is tied up in receivables.
The accounts payable lag has implications for production. Suppliers become concerned as the lag grows and they start to withhold material for production. At 30 days, they withhold 1%. At 60 days, they withhold 8%. At 90 days, they withhold 26%. At 120 days, they withhold 63%. At 150 days, they withhold all material. Withholding material creates shortages on the production line, workers stand idle and per-unit labor costs rise.
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