AAT L4 Credit Management 1 — Questions and Answers
Question 1: The primary objective of a credit management function is to:
- Maximise the number of credit customers
- Grant credit to all customers who request it
- Manage credit risk to maximise profitable sales while minimising bad debts and overdue collections (Correct answer)
- Collect all debts regardless of the cost of collection
Correct answer: Manage credit risk to maximise profitable sales while minimising bad debts and overdue collections
Credit management balances the commercial need to make sales on credit against the financial risk of non-payment — the goal is profitable revenue growth with acceptable levels of credit risk, overdue debt, and bad debt.
Question 2: A credit scoring model is used to:
- Calculate the interest rate charged on late payments
- Assess the creditworthiness of a new customer by systematically scoring key risk factors to determine whether and how much credit to offer (Correct answer)
- Prepare the aged receivables report
- Automate the sending of statements to customers
Correct answer: Assess the creditworthiness of a new customer by systematically scoring key risk factors to determine whether and how much credit to offer
Credit scoring models assign numerical scores to risk factors (e.g., years in business, payment history, financial ratios, credit agency data), producing an overall score to support objective credit limit decisions.
Question 3: Which of the following documents is used to assess the financial health of a potential trade credit customer?
- The customer's staff handbook
- The customer's most recent audited financial statements and credit agency report (Correct answer)
- A copy of the customer's marketing brochure
- The customer's order history with other suppliers only
Correct answer: The customer's most recent audited financial statements and credit agency report
Assessing credit risk involves reviewing financial statements (to evaluate liquidity, gearing, and profitability), credit agency reports (payment history, CCJs, credit score), bank references, and trade references from other suppliers.
Question 4: A retention of title clause (Romalpa clause) in a contract:
- Prevents the customer from using the goods until full payment is received
- Means ownership of goods does not pass to the buyer until full payment is made, allowing the seller to reclaim goods in a buyer's insolvency (Correct answer)
- Guarantees the quality of the goods supplied
- Requires the buyer to insure the goods immediately on delivery
Correct answer: Means ownership of goods does not pass to the buyer until full payment is made, allowing the seller to reclaim goods in a buyer's insolvency
A retention of title (ROT) clause retains legal ownership with the seller until the buyer pays in full; if the buyer becomes insolvent before paying, the seller can reclaim identifiable goods from the insolvency estate.
Question 5: The role of a credit insurance policy in credit management is to:
- Cover the cost of chasing overdue debts
- Protect the business against bad debt losses on insured customers up to a policy limit (Correct answer)
- Guarantee that all customers will pay within agreed terms
- Replace the need for any credit control procedures
Correct answer: Protect the business against bad debt losses on insured customers up to a policy limit
Credit insurance provides compensation (up to the insured limit) when an insured debtor fails to pay due to insolvency or protracted default, protecting the business against bad debt losses on major customer accounts.
Question 6: A personal guarantee from a company director is sought because:
- It increases the credit limit automatically
- It makes the director personally liable for the company's debt if the company cannot pay, providing additional security (Correct answer)
- It is required by law for all credit agreements
- It reduces the interest rate charged on overdue accounts
Correct answer: It makes the director personally liable for the company's debt if the company cannot pay, providing additional security
A personal guarantee creates a personal contractual obligation on the director/guarantor to pay the debt if the company defaults; it is particularly sought when the company has limited assets or a weak balance sheet.
AAT L4 Credit Management 1
The primary objective of a credit management function is to: