How Businesses Benefit From Credit Risk Management
Access to credit has been a key part of businesses since medieval times. In medieval Europe, the societies of England and Italy used "forward contracts" in order to repay cash loans in wool. Investment is an important part of any business and many owners don't have the cash required to capitalize on a venture or underwrite new products.
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However, there is some risk involved in providing credit. Sometimes an account is paid late or goes into default. In order to reduce the risk involved, business owners need to consider credit risk management before they offer credit to clients or partners.
There is a very real risk to the process of offering credit. With today's economy, any small mistake can prove costly. For example, if ABC Company manufactures computer chips in the United States and is contacted by XYZ Ltd from India who wants to order ten million dollars worth for a new project?
While this is a good deal for the ABC Company, they also need to be careful since they don't know a lot about XYZ Ltd. There is no history between the companies and there is no way to tell if XYZ Ltd is going to honor their contract or have the means to repay the bill.
This means that the ABC Company has two options. First, they can require cash payment up front with the balance due upon delivery. In this type of a transaction, the client will lose their deposit if they are unable to repay the balance while ABC will be able to sell the computer chips to someone else.