What are the four elements of a firm’s credit policy? To what extent can firms set their own credit policies as opposed to accepting policies that are dictated by its competitors?

Explanation

Credit policy refers to the policies and procedures for granting and collecting the loan. The four key elements of a firm's credit policy are:

Credit period - It is the length of time between when a customer purchases a product and when the customer payment is due.
Credit standards - It evaluates the minimum financial strength a customer is required to have to qualify for credit purchases.
Collection policy - It is the process of collecting accounts receivable from the customers purchasing goods and services on credit.
Cash discounts - The discounts given to attract customers and encourage early payments. Credit terms are usually stated in the following form:  3/20, net 30.  This means a 3% discount will apply if the account is paid within 20 days, otherwise the account must be paid within 30 days.

A firm doesn't need to accept the credit policy employed by its competitors, but it eventually affects its sales and profitability. Thus, a company is then forced to adopt the credit policy adopted by its competitors in order to be in the market competition.

Verified Answer

The key elements of a firm's credit policy are as follows:

Credit period - It is the time period for which credit is extended to the company's customers.
Credit standards - The guidelines that the company follows to determine the creditworthiness of a customer.
Collection policy - The steps a company follows to make sure timely payment of its receivables.
Cash discounts - It is a reduction in the percentage of the sales price to encourage early payments by the customers.

In order to stay in the market, the firm is compelled to accept the credit policies offered by its competitors to the customers.