"Credit sales are purchases made by customers for which payment is delayed. Delayed payments allow customers to generate cash with the purchased goods, which is then used to pay back the seller. Thus, a reasonable payment delay allows customers to make additional purchases. The use of credit sales is a key competitive tool in some industries, where longer payment terms can be used to attract additional customers. A downside of credit sales is the risk of bad debt loss. Also, the seller must invest in a credit and collections department"(Bragg, S.).
Types of Sales Transactions
- Cash sales: Cash is collected when the sale is made, and the goods or services are delivered to the customer.
- Credit sales: Customers are given a period of time after the sale is made to pay the company.
- Advance payment sales: Customers pay the company before the sale is made.
Credit sales similar to a sale in which the amount due owed will be paid at a later time. In other words, credit sales are purchases made by customers who do not make a payment at the time of purchase.
Firma use a variety of payment terms to settle their transactions of services and goods. Suppliers determine sales, on trade credit, cash sales and demand for cash in advance. Payment terms offer firms contractual solutions to informational asymmetries between buyers and sellers. Extending the trade credit can attract high-risk buyers.
Similarly, advance payments may increase uncertainty and moral hazard on the seller side. Advance payments could signal buyer creditworthiness and lead to larger credit sales. Whether the two terms of payment are complements or substitutes can play a significant role in the diffusion of adverse shocks affecting asymmetrically buyers and sellers. One wonders then whether trade partners may solve mutual information asymmetries by setting payment terms where trade credit and advance payments are used as complements.
"Exporters facing higher transaction risks, extend less trade credit than domestic firms. Although a large proportion of suppliers sell less on credit if they receive cash in advance from their customers, we show that small vendors of differentiated goods and exporters of standardized goods increase their credit sales if they receive advance payments"(Mateus, S., Zanchettin, P.).
Advantages and Disadvantages of Credit Sales
- Credit sales can be used to acquire new clients. Longer credit sales terms can be more attract for customers.
- Offering credit sales gives customers the flexibility to pay for purchases at a later time. Customers are sometimes without enough cash on hand.
- Customers can potentially bankrupt. If clients go bankrupts, the amont due may never be recovered.
- If the costumer refuses to pay, the costs of debt recovery or payment recovery may exceed revenues.
- Bragg, Steven (November 24, 2018) Credit sales Accounting Tools, 1, 1.
- Harl, Neil E., Maurer, Michael T.(spring, 1992) Using Escrow Accounts and Letters of Credit to Assure Payment Under Credit Sales Agreements Journal of Agricultural Taxation and Law, 3-24.
- Mateut, Simona, Zanchettin, Piercarlo (July, 2012) Credit sales and advance payments: substitutes or complements? University of Leicester, Departments of economics, Working Paper No. 12/18, 1-7.
- Scodari, Paul, Shabman, Leonard (December 2004) Past, Present, and Future of Wetlands Credit Sales Resources for the Future, 1, 1-36.
Author: Angelika Bogdanik