Order Controls

In many companies, the credit department is required to approve each sales order. This may be accomplished by reviewing each order, but it is more efficient and more common to control orders pending on an exception basis. Exception only order approval requires the credit department to review only those accounts that exceed specified credit parameters, those accounts with past-due balances, and those accounts with orders approved on a case-by-case basis.

Management by exception necessitates an effective method of controlling and screening all orders submitted. Unless every order is screened, there can be no assurance that specific credit limits and terms of payment will be observed. There should be no way for anyone to bypass or override the need for credit approval once an order has been identified as requiring credit approval before shipment.

A critical factor of any credit control system is the point at which orders enter the order entry system. Multiple points are often established so the company may be responsive to customer needs. In a decentralized order entry configuration, the orders must quickly be forwarded to the credit department, credit reviews must be done as quickly as possible, and the approval must be transmitting to the shipping location as soon as possible so that the order can be processed and shipped as soon as possible.

Single Order Entry Point

Certain credit procedures are commonly followed when there is a single order entry point. The most basic is that each customer will be assigned a specific credit limit and terms of sale. Any order entered that exceeds the established credit limit, or that contains credit terms other than those approved by the credit manager should be routed automatically to the credit department for review and approval.

Some companies establish credit limits for each customer and specific dollar maximums for orders pending. If an order is entered that exceeds the maximum established by the credit department, the order is referred to the credit department for approval. There are several reasons why such a process is put into place including these:

• To verify the terms of sale on larger orders
• To verify that the order is legitimate, and not some form of credit fraud
• So that the credit department can compare prices on the PO to prices entered and address any discrepancies
• To allow the credit department to review the customer's purchase order to ensure that the terms and conditions listed on the PO are acceptable to the seller.

Overall credit exposure is determined by adding the following together:

• The balance owing
• The cost of the order pending
• The value of orders already approved for shipment but not yet shipped and billed

If the total of these three items exceeds the credit line, the order must be referred for review and temporary or permanent increase in the line. A new investigation may be necessary. If the order must be refused, the customer must be notified as quickly as possible. Notification can be made by the credit department or by sales, depending upon company policy.

Most automated systems approving routine orders and refer only "problem" orders for problem customers to the credit department. Some systems allow a certain amount of flexibility. For example, some automated systems allow customers that have exceeded their credit lines one order in excess of the credit line. Other systems allow customers to exceed the established credit limit by a certain percentage, such as 5%. Some automated systems are more sophisticated, and allow orders to exceed the established limit by a specific percentage such as 5% provided the customer is not past due.

Multiple Order Entry Points

With multiple order entry points and centralized administration of credit, order processing [order review and approval] must be given the highest priority by the credit department. The department must have enough time to conduct an investigation of the customer [such as updating the file] but cannot be allowed to delay a credit decision unnecessarily.

If a company sells multiple products at multiple order entry points to one customer, the control of total exposure can become complex. For example, assume a consumer products company has several divisions and subsidiaries, each of which sells to a national retailer. It is possible that without coordination the combined credit exposure of the parent company's divisions and its subsidiaries would be unacceptably large. Only by proper communication links to one central point can control over the combined, consolidated credit exposure to a single customer be maintained.

Some firms write all orders in duplicate, one copy going to the warehouse and the other to the credit department. If the order cannot be approved, the shipping point is advised promptly and the shipment is delayed. With these exceptions, all orders may be shipped after a specified waiting period. In other words, silence on the part of the credit department indicates approval for the order to be shipped to the customer.

Other companies record orders in triplicate. The original is sent to the warehouse or shipping point, one copy goes to the credit department, and the last copy is sent to the sales department where prices or other conditions are checked. In that scenario, either the sales or the credit department can delay an order.

Reprinted with the permission of Credit Research Foundation.

Edited by Michael Dennis, author of "Credit and Collection Handbook" available at the NACM Bookstore.