Credit Standards

The term ‘credit standards’ represents the basic criteria for the extension of credit to customers. The quality is of establishing credit are factors such as credit ratings, credit references. an-rage payments period and certain financial ratios.” Since we are interest in illustrating the trade-off between benefit and cost to the firm as a whole, we do not consider here these individual components of credit standards. To illustrate the effect, we have divided the overall standards into (a) tight or restrictive, and (b) liberal or non-restrictive. That is to say, our aim is happens to standards are relaxed or, tightened. The trade-off with reference to credit standards covers (i) the collection cost, (ii) the average collection period/cost of investment in accounts receivable, (iii) level of bad debt losses, and (iv) level of sales. These factors should be considered whether to relax credit standards or not. If standards are relaxed, it means more credit will he extended while if standards are tightened, less credit will be extended, The implications of ‘the four factors are elaborated below.

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