Inefficiency receivable management case of hight account receivable in THMC

1 UNIVERSITY OF ECONOMICS HO CHI MINH CITY International School of Business NGUYEN THI THU THUY INEFFICIENCY RECEIVABLE MANAGEMENT CASE OF HIGH ACCOUNT RECEIVABLE IN THMC ID: 22130077 MASTER OF BUSINESS ADMINISTRATION SUPERVISOR: PhD PHAM PHU QUOC Ho Chi Minh City – Year 2016 ACKNOWLEDGEMENT This thesis becomes a reality with the kind support and help of many individuals I would like to extend my truthful thanks to all of them Foremost, I would like to express my gratitude and sincere thanks to my advisor, PhD Pham Phu Quoc for his guidance, imparting his knowledge and expertise my study Special thanks to members of THM Company for cooperating, supporting and providing necessary information regarding this thesis My thanks and appreciations also go to my group mates who have cooperated with me to complete this thesis and classmates who have willingly helped me out with their abilities Last but not least, warmest thanks to my family and my fiancé who always support and encourage me in completion of this thesis TABLE OF CONTENT ACKNOWLEDGEMENT TABLE OF CONTENT CHAPTER – EXECUTIVE SUMMARY CHAPTER - PROBLEM IDENTIFICATION 2.1 Company Background 2.2 Situational analysis 2.3 The first tentative problem: Trade credit policy 16 2.4 The second tentative problem: Ineffective coordination 18 2.5 The third tentative problem: External effects 20 2.6 The real core problem: Trace credit policy 21 CHAPTER – SOLUTIONS 23 3.1 Alternative - Change trade credit policy 24 3.2 Alternative - Bank guarantee 28 3.3 Alternative - Factoring accounts receivable 29 3.4 Selection of solutions 31 CHAPTER - IMPLEMENTATION 33 CHAPTER - CONCLUSION 39 CHAPTER – SUPPORTING INFORMATION 40 6.1 Methodology 40 6.2 Definition of theoretical frameworks 41 6.3 Consequences of ineffective accounts receivable management 45 6.4 Transcript 50 REFERENCES 57 APPENDIX 63 List of figures Figure 2.1 Return on assets of THM, Nam Phong and the industry Figure 2.2 Return on equity of THM, Nam Phong and the industry Figure 2.3 Decrease in sales and accounts receivable Figure 2.4 Receivable turnover ratio of THM, Nam Phong and the industry Figure 2.5 Days sales outstanding of THM, Nam Phong and the industry Figure 2.6 Aging of THM’s accounts receivable in 2014 Figure 2.7 Factors cause the inefficiency in accounts receivable Figure 6.1 Cash conversion cycle Figure 6.2 Consequences of high accounts receivable List of tables Table 2.1 Revenue and profit after tax of THM Table 2.2 Percentage of accounts receivable on credit sales Table 2.3 Receivables’ ratios of THMC CHAPTER – EXECUTIVE SUMMARY Working capital management is paramount for an enterprise, especially for manufacturing, trading and distribution firms, because of its significant effects on the profitability and liquidity of the firm (Lazaridis & Tryfonidis, 2006) As one of three primary elements of working capital, accounts receivable also have impact on the operating result of the firm It is the most important source of external finance of enterprises (Petersen & Rajan, 1997) and also a supporting source for buyers (Cheng & Pike, 2003) Thus, the managers can use accounts receivable as a tool to increase company’s revenue, profit as well as the relationship with customers Too high amount of receivables, though, can lead to many consequences that make decreases on company’s performance (Gill, Biger & Mathur, 2010) Thus, keeping accounts receivable at an optimal amount is an important financial issue The thesis is about the problem of inefficient receivable management of THM It causes the inefficient in cash conversion cycle and working capital management which have bad influence on the profitability of the company The study will point out the factors that make this inefficiency as well as its financial outcomes After considering all the aspects leading to the problem, the thesis then aims at finding and advising the possible alternatives and practices for improving the efficiency of company’s receivables management CHAPTER - PROBLEM IDENTIFICATION 2.1 Company Background st THM trading and construction limited company is the level agency of Akzo Nobel Vietnam They distribute the painting products to the construction projects and the nd level agencies in Vietnam Established in 1996, THM was a retail store supplying construction materials like brick, iron, steel, paint, roller… THM has developed strongly and steadily In 2002, the THM retail store was developed into THM trading and construction limited company with the business focus being painting products Until now, their supply chain covers almost all provinces in the South of Vietnam They achieve the highest revenue in Southern Vietnam for many years In 2011, the company reached the highest revenue in both projects and agencies segments in the whole Vietnam market Below is some basic information of the company • Company name: Công ty trách nhiệm hữu hạn thương mại xây dựng Thế Hệ Mới • English name: The He Moi trading and construction limited company (THMC) • Office: 299 Tan Ky Tan Quy Street, Tan Son Nhi Ward, Tan Phu District, HCMC • Warehouse: 259 Tan Ky Tan Quy Street, Tan Son Nhi Ward, Tan Phu District, HCMC • Tel/fax: (08) 35367276/8472838 • Capacity: 4.000.000.000 VND • Company structure: general director, chef accountant, warehouse manager, sale leader and 20 staffs Directorate Accounting department Warehouse department Sales department Accountants Warehouse staffs Salesman 2.2 Situational analysis Before conducting interviews with THM’s members, Company’s annual reports are provided Having a glance at financial documents reveals the basics of the company’s situation at that time The most noticeable information is the significant decrease in total revenue and the profit during the period of years The company even made losses in 2013 and 2014 Table 2.1 Revenue and profit after tax of THM 2011 Revenue Profit after tax 2012 2013 83,873,256,871 50,348,740,377 1,185,546,709 26,389,069 2014 34,229,467,210 26,441,898,754 - - 252,311,429 45,377,948 (THM’s Income statement, 2011-2014) In 2011, the return rates of THMC were very high in comparison to the rates of construction materials industry Especially, return on equity (ROE) was over 45% However, in the next years, ROA and ROE of the firm was decreased dramatically In 2014, although the industry ROA and ROE ratio recovered and increased to 3% and 10%, respectively, THM’s ratios continued falling In comparison to Nam Phong Company which is another supplier of Akzo Nobel’s products, the data also indicates the poor outcome from THM During the period of years from 2012 to 2014, Nam Phong’s return rates increased to the very high point The comparisons with the industry and Nam Phong, it can be easily noticed point out the ineffective in working of THM in the last years The figures below will show the details ROA 16.00% 14.00% 12.00% 10.00% 8.00% 6.00% 4.00% 2.00% 0.00% -2.00% 2011 2012 THM 2013 Nam Phong 2014 Industry Figure 2.1 Return on assets of THM, Nam Phong and the industry ROE 50.00% 40.00% 30.00% 20.00% 10.00% 0.00% -10.00% -20.00% 2011 2012 THM 2013 Nam Phong 2014 Industry Figure 2.2 Return on equity of THM, Nam Phong and the industry - Ms Nhi: One another reason is because the Sales department The salesmen not bother the customer’s creditworthy when selling products They just focus on increasing the revenue At the end, we – the finance – accounting department have to deal with the large amount of bad dept I think there is a serious conflict between sales department and accounting department - Mr Hai: Actually the main income of a salesman is come from the commission of his revenue sold in that month Therefore we often are motivated to sell as many products as possible Moreover, the sales decreased recent years; selling products is harder So that we all have to try more to attract customers and increase the revenue How does the company grant credit to a customer? - Mrs Nguyet: Most of customers of THM are contractors of construction projects They buy in bulk and value of purchasing contracts are large and various Thus, THM grants different credit sales amount for different customer We mainly based on the design plans of the projects that the customers provide to offer the limit of sales on credit The limit is about 10% of the total amount that customers are going to spend for painting products in the projects We will stop supplying to the customer who have not pay their on due debts or their debts exceeds the credit limit So there is no credit standard for customer assessment? - Mrs Nguyet: No We set the credit limit based on the projects information How about other terms? - Ms Nhi: We apply the credit period of 45 days for all customers and offer 2% cash discount for immediate payment purchases And how much discount rate you offer for early payment? - Ms Nhi: There is no discount for early payment for sales on credit After the first day, customer has to pay all the value of the contract How you collect the due accounts receivable? - Ms Nguyet: When there is a mature debt, the company often makes calls and sends request payment letters to customers The debts are frequently paid partly and less than my expectation Do you apply a fine for late payment or use any legal actions to collect the debts? - Ms Nguyet: When setting a purchasing contract, we always write down the penalty interest rate for late-payment However, we have never required for that fine I think it will affect the relationship and the pleasure of the customers So that we just apply the law collection policy to the customers who are unwilling to pay and delay the payment in too long time Do you any other way to collect the overdue debt, especially the bad debts? - Ms Nguyet: When there is a debt held in to long period and that customer is not willing to pay, we have to take legal action And we once had to sell a bad quality receivable for a collecting company It was very expensive Those companies often take from 20% to 40% of the amount of accounts receivable that they buy However it is still better than losing total of that debt Interview with a customer who visit THM to buy products: How long have you worked with THM company? I have worked with THM for a long time This is a qualified and reputation firm What are your standard to choose a supplier? It is depended so much on each project Big project requires the financial conditions of the supplier It has to be strong enough to supply products in a long time with a high amount of credit sales The qualification and the price of products also have to be competitive How about your company’s order amount? Is there any change recently? Why? Volume of orders now is lower than before The real estate market has been going down recent years So it is harder to sell a real estate, a house or an apartment And I have to be honest that, there are a lot of suppliers who provide products with very competitive prices, promotion policies, and better credit term for customers Some of the companies somehow delay their payment Our bad debt rate keeps increasing recent years Would you tell me some reasons for that delay? Actually, our company sometimes still has to delay our payment I not know how the other companies are, but we not want to delay the debt The real estate market affects a lot in our cash flow For example when an investor put his money in a building, he expects to sell that building and use that inflow cash to pay his debt However, if he cannot sell the building, he has to delay the debt Thank you for your sharing We really appreciate that REFERENCES Aggarwal, K., & Tyagi, A (2014) Inventory and Credit Decisions under Day-Terms Credit Linked Demand and Allowance for Bad Debts Advances In Decision Sciences, 2014, 1-11 Berry, A & Jarvis, R (2006) Accounting in a Business Context (4th ed) London, UK: Thomson Brennan, M., Maksimovic, V & Zechner, J (1988) Vendor Financing Journal of Finance, 43,1127-1141 Brigham, E., & Ehrhardt, M (2013) Financial Management: Theory & Practice (14th ed) South-Western: Nelson Education, Ltd Retrieved from http://www.swlearning.com/finance/brigham/theory11e/web_chapters/bri59689 _ch27_web.pdf Burez, J., & Vandenpoel, D (2008) Separating financial from commercial customer churn: A modeling step towards resolving the conflict between the sales and credit department Expert Systems With Applications, 35(1-2), 497-514 Cheng, N., & Pike, R (2003) The trade credit decision: evidence of UK firms Managerial And Decision Economics, 24(6-7), 419-438 Construction material financial statement (2015) Retrieved from http://www.cophieu68.vn/incomestatementq.php?id=^vlxd Cuñat, V (2007) Trade Credit: Suppliers as Debt Collectors and Insurance Providers The Review of Financial Studies,20(2), 491–527 Deakins, D., Logan, D & Steele, L (2001) The Financial Management of the Small Enterprise ACCA Research Report No 64 Deloof, M & Jeger, M (1996) Trade Credit, Product Quality, and Intragroup Trade: Some European Evidence Financial Management, 25(3), 945-968 Deloof, M (2003) Does Working Capital Management Affect Profitability of Belgian Firms? 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- 6,310,737,088 6,300,090,088 II Short-term investment III Accounts receivable Accounts receivable from 2012 2011 36,331,973,260 43,465,677,887 1,333,853,168 4,914,810,672 - - 8,624,257,077 9,228,399,034 12,156,451,169 8,624,257,077 9,228,399,034 12,156,451,169 - - customers Other accounts receivable 10,647,000 Allowance for doubtful - - 15,055,117,494 13,112,068,742 24,176,924,545 24,448,027,341 352,506,533 224,806,167 1,592,796,513 1,946,388,705 accounts IV Inventories V Other current assets B - Long-term assets Fixed assets TOTAL ASSETS 317,050,726 391,505,110 520,705,069 556,824,894 317,050,726 391,505,110 520,705,069 556,824,894 28,716,257,835 31,496,161,427 36,852,678,329 44,022,502,781 LIABILITIES AND 2014 2013 2012 2011 A Liabilities 25,203,378,910 27,730,971,074 33,040,742,551 40,967,034,059 I Current liabilities 25,203,378,910 27,730,971,074 31,490,742,551 40,967,034,059 Current liabilities 1,400,000,000 1,851,864,235 5,383,846,256 1,550,000,000 Accounts payable 23,803,378,910 25,528,383,192 23,916,561,891 38,341,448,660 350,723,647 390,334,404 75,585,399 1,800,000,000 1,000,000,000 1,550,000,000 - EQUITY Taxes and payable to state budget Other current liabilities II Long-term liabilities B - Equity Paid-in capital Undistributed earnings TOTAL LIABILITIES AND EQUITY - - 3,512,878,925 3,765,190,353 3,811,935,778 3,055,469,722 2,600,000,000 2,600,000,000 2,600,000,000 2,600,000,000 912,878,925 1,165,190,353 1,211,935,778 455,469,722 28,716,257,835 31,496,161,427 36,852,678,329 44,022,503,781 Appendix 3: Income statement of Nam Phong unit: VND Items 2012 2013 2014 13,799,545,230 13,218,935,488 17,885,479,784 0 Net revenue from sales and services 13,799,545,230 13,218,935,488 17,885,479,784 Cost of goods sold 10,720,783,418 9,296,967,642 10,997,929,036 3,078,761,812 3,921,967,846 6,887,550,748 51,606,726 267,111,994 60,317,724 2,793,200 112,639,012 16,229,450 3,072,798,738 3,770,753,374 5,863,858,632 54,776,600 305,687,454 1,067,780,390 Other revenues 0 Other expenses 0 Other net income 0 54,776,600 305,687,454 1,067,780,390 9,585,906 61,137,490 213,556,078 45,190,694 244,549,964 854,224,312 Revenue from sales and services Depreciations Net income from sales and services Revenue activities from financial Financial expenses Selling expenses Net income activities from Net income before taxes Tax Net income after taxes business Appendix 4: Balance sheet of Nam Phong ASSETS Items 2012 2013 2014 A -Current assets 7,800,321,856 8,243,825,542 11,362,651,418 II Cash and cash equivalents 5,739,273,550 5,607,976,834 6,739,952,128 0 1,539,515,336 1,871,418,598 2,664,897,076 1,092,561,410 1,403,390,170 1,478,813,752 446,953,926 468,028,428 978,083,324 0 208,000,000 0 IV Inventories 195,797,852 496,496,734 1,628,953,280 V Other current assets 325,735,118 267,933,376 328,848,934 B - Long-term assets 300,838,588 632,938,366 185,475,842 49,640,018 11,923,566 101,469,092 101,469,092 101,469,092 -51,829,074 -89,545,526 -101,469,092 251,198,570 621,014,800 185,475,842 8,101,160,444 8,876,763,908 LIABILITIES AND EQUITY 11,548,127,260 2012 2013 2014 A Liabilities 5,358,731,532 5,889,785,032 7,706,924,072 I Current liabilities 4,357,922,564 4,888,976,064 6,706,115,104 Current liabilities 0 Accounts payable 3,917,781,108 4,209,762,490 4,999,290,844 93,045,308 320,817,766 861,712,342 330,116,148 250,934,978 338,638,700 II Short-term investment III Accounts receivable Accounts receivable from customers Advance payment to supplier Other accounts receivable Allowance for doubtful accounts I Fixed assets - Tangible fixed assets costs - Depriciation II Real estate investment TOTAL ASSETS Items Advance payment from customer Taxes and payable to state budget other current liabilities II Long-term liabilities 16,980,000 107,460,830 506,473,218 1,000,808,968 1,000,808,968 1,000,808,968 B - Equity 2,742,428,912 2,986,978,876 3,841,203,188 2,000,000,000 2,000,000,000 2,000,000,000 742,428,912 986,978,876 1,841,203,188 8,101,160,444 8,876,763,908 11,548,127,260 Paid-in capital Undistributed earnings TOTAL LIABILITIES AND EQUITY ... focusing on reducing investment in working capital and improving working capital efficiency THMC can create positive profit by tighten management of accounts receivable and reducing the number of. .. examining how well a manufacturing company’s working capital is being managed 6.3 Consequences of ineffective accounts receivable management Ineffective working capital management High accounts receivable. .. the capital in receivable Remaining too high amount of accounts receivable and too long days sales outstanding cause the negative effects on profitability of the company In the case of THMC, the