Group Credit Policy. Copyright Sandvik AB. Effective date: Date of last review:

Transcription

1 Group Credit Policy Copyright Sandvik AB Title: Group Credit Policy Effective date: Date of last review: Document responsible: Per-Olof Duvhammar, Group Credit Controller Approved by: Anders Örbom, Group Treasurer, Sandvik Financial Services

2 Index 1. Purpose and scope of Group Credit Policy Roles and Responsibilities Introduction to Credit Management Credit Management Process Credit Assessment Credit Application Counterpart Risk Assessment Credit Granting Standard Credit Granting Process Simplified credit granting procedure for small accounts Cross Country Sales Credit Monitoring and Review Sales/Operative Process Payment terms Authority to grant payment terms Standard Terms of payment Special Terms of payment Customer Financing Cash Discounts Factoring Information to customers on Sandvik s credit policy Collection Process Establishment of an administrative collection routine The recommended collection process General issues Late Payment Interest Reporting and Follow-up Accounts receivable and bad debts provision rules Scope Bad debts provision basis Negative information Age structure Provision involving Payment Plans Credit Securities Writing off Provisions for tax purposes Group reporting Control and Follow-up Process Key Performance Indicators Target setting Control and Internal Reporting Weekly Aging Analysis Monthly and Quarterly reviews Annual review of credit structure Reporting Training and Awareness

3 1. Purpose and scope of Group Credit Policy The Sandvik Group Credit Policy has been established with the objectives of: Recognizing and understanding important issues related to the granting of credit to and collection of payments from customers. Providing rules and guidelines on important aspects of the work facing the functions involved. Ensuring consistent thinking and action on these issues by Group Companies within the Sandvik Group. Group Credit Policy (issued by Sandvik Credit) Business Area Credit Policy (issued by BA Finance Dept) Group Company Credit Policy (issued by GC Credit Manager) Group Credit Policy The Group Credit Policy sets the framework for credit and collection practices within the Sandvik Group and defines the decision-making structure and targets set on a group level. The main objective of this policy is to establish standard business rules concerning the authorization and the control of credit granted to our customers including payment terms shorter than 1 year. Payment terms longer than 1 year are defined as Customer Finance, described in section The Group Credit Policy applies to all operational and legal entities of the Sandvik Group and forms the superior steering document for establishing credit and collection procedures within each Group Company. Business Area (BA)/Product Area (PA) Credit Policy The BA/PA Credit Policy is issued as a complement to the Group Credit Policy and within the framework set by the same. It should comprise the overall targets set by the Business Area, the decision-making structure for the credit granting, collection procedures and other BA specific issues. Group Company (GC) Credit Policy The GC Credit Policy should be based upon the Group Credit Policy. 3

4 2. Roles and Responsibilities The roles and responsibilities established below form part of the common credit and collections platform for the Sandvik Group. Group Level Group Credit Manager issues Group Credit Policy Business Area Level BA CFO/Head of Finance issues BA Credit Policy Local Subsidiary Level Country Finance org./ Finance Partner issues Local/GC Credit Policy Sets direction Provides feedback Group Level The Group Treasurer, head of Sandvik Financial Services, has the role of the Group Credit Manager. The practical responsibility of maintaining, interpreting and updating lies with Sandvik Credit, a part of Sandvik Financial Services. The Group Credit Manager is responsible for: Annually reviewing the Group Credit Policy to assess if it is in line with group strategy and objectives, and modifying it as required. Coordinating actions for improvements (in terms of procedures, training, system support etc.). Assessing risk exposure on a Group level. Monitoring total credit exposure at group level. Preparation and follow-up of Key Performance Indicators (KPI s). Business Area Level The CFO/Head of Finance for each Business Area is responsible for: Issuing and updating a BA credit policy Defining the decision-making structure including authorization of credit limits and granting of special payment terms as well as other BA/PA specific issues. Liaising with the Group Credit Manager. Setting of targets as well as preparation and follow-up of Key Performance Indicators (KPI s). Liaising with the Credit Function (-s) covering the relevant business operation (-s). The concept Credit Function is defined in the next section. Group Company (GC) Level All sales operations in the Sandvik Group should be covered by a GC or else entity level credit policy. The Country Finance organization or else the Finance Partner role within relevant Business Area, as of the GFA (Global Finance Alignment) concept established within Sandvik, is 4

5 responsible for the existence of a credit policy updated to the standard set forth in this GCP, as well as its practical use based on the policy. Within its framework, the practical responsibility of managing the order-to-cash process, or parts of it, might be assigned to different functions or persons depending on the local organization structure and the use of shared service providers inside or outside of the Sandvik Group. These functions or persons will hereafter be referred to as Credit Function. The overall responsibility of the Credit Function is to control the company s credit exposures in agreement with the company s objectives. Practically, this can be broken down into the following areas: Credit Assessment Credit Granting Credit Monitoring and Review Collection Target setting Control and Follow-up Education Formulation and updating of the local GC Credit Policy It is the responsibility of the GC or entity superior management to ensure that the Credit Function is entrusted with the mandate to take the necessary decisions. Based on the principle A sale is never completed until full payment is in our bank account, the sales organization has the overall ownership for the account receivables generated by their business operation, and are held accountable for them. The Credit Function is responsible for establishing and maintaining accurate credit evaluation and an efficient collection process, as well as being an active business support to the Sales operation. The sales organization is responsible for payment terms extended to the customers. The Group Company Manager is responsible for ensuring that all persons authorized to approve standard as well as special payment terms have a proper understanding of the costs involved. The Credit Function and the Group Company Manager have a joint responsibility in ensuring that credit and collection staff and all salespersons are informed of the GC Credit Policy or any changes made to it. 5

6 3. Introduction to Credit Management The Credit Management is described as an Order-To-Cash (O2C) process that starts with an order enquiry and ends when payment for the invoice is received in full or where the outstanding amount is written off as a bad debt. The order enquiry triggers the following processes: New customer: Credit Application is sent by sales to the Credit Function. A Credit Assessment is carried out by the Credit Function to assess risk. Based on the Credit Assessment a decision is taken whether to grant the customer credit or not. Based on the credit decision, a sales agreement is set up. The payment terms must be clearly stated in the sales agreement. It is important to inform customers at this time that the payment term is an important element of the total business deal the price relates to the terms offered. Once the account has been entered into the customer master, the customer is monitored continuously for changes in credit risk and credit exposure. Customers who change credit status negatively should be evaluated for decreased credit limit or put on cash on delivery/cash in advance term. The collection process should start immediately when an invoice reaches due date without payment receipt. The standard collection process is described below. An effective credit management process requires close co-operation between the sales department and the credit and collections function. See process defined below. Observe that only the darker boxes are covered in the Credit Management Guidelines. Sales/Operative Process Sales Process Sales Agreement Orders, Deliveries Invoicing Credit Management Process Credit Assessment Credit granting Credit Monitoring & Review Collection Process Collection process Control & Follow-up Process Control and follow-up The following is mandatory for all Group Companies within the Sandvik Group: All customers must be assigned a credit limit. The Credit Function is responsible for credit assessments. The Credit Function only should be authorized to update or change risk-categories and credit limits in the customer master file. Standard terms as per the domestic market shall apply. Special terms should only be approved as per the decision-making structure stated in the GC Credit Policy. 6

7 Customers should be informed of Sandvik s credit policy or any changes in the credit policy by the responsible salesperson when setting up or re-negotiating sales agreements. An administrative collection routine must be established between the Credit Function and the customer s Financial Department. The Credit Function is responsible for establishing and maintaining an effective and efficient reminding and collection process as well as being an active support to the Sales Department. Nevertheless, the Sales Department maintains the overall ownership and accountability for the outstanding receivables. Rules for escalation to delivery stop and legal action must be clearly defined in the local Credit Policy and consistently enforced. Accounts maximum 45 days overdue or more are put on delivery stop and invoices maximum 60 days overdue are handed over for legal collection process according to local legislation. Please note that stricter rules may apply as chosen by each BA or GC. Targets for Key Performance Indicators should be established and reviewed annually by the Credit Function in co-operation with the Group Company Manager. These targets should be aligned with BA level. An annual review of the credit structure is to be made jointly by the Credit Function and the Group Company Manager in connection with the budget work. 7

8 4. Credit Management Process 4.1. Credit Assessment Credit Application No credit sales are allowed to customers before a credit assessment has been carried out and a credit limit has been decided. The sales organization is primarily responsible for all contacts with the customer and for the presentation of the Credit Application forms where applicable to the customer. It is also their responsibility to check that the necessary data is properly filled in before presenting it to the Credit Department Counterpart Risk Assessment The Credit Function is responsible for assessing the creditworthiness of a customer. Sources of information relevant for determining credit risk include: Internal sources External sources Business related information obtained through contacts with the customer Own payment history Experience from dealing with customer (existing) Credit reports and investigations Bank references Trade references Financial statements, public or direct from customer World Compliance or Sanction lists Internet or other public sources of information The possibility to use and the reliability of different sources varies from country to country. The extent of the investigation undertaken should depend on the risk exposure. The following model is recommended: For orders below X EUR, a simplified risk assessment should be carried out. For all orders above X EUR, an extended risk assessment should be carried out. For all other orders the standard risk assessment should be carried out. The order level, sources and extent of information used for each risk assessment procedure should be described in the local credit policy. Assessing counterpart risk also includes the element of trade compliance. Potential counterparts should be checked for involvement in money laundry, corruption or countries, individuals, banks or companies subject to embargos or sanctions. Engagement in any such activity, directly or indirectly, may seriously harm Sandvik: consequences may be fines, loss of customers, loss of good reputation to our brand or even imprisonment. If in any doubt, please check with Trade Compliance Credit Granting The GC Credit Policy should define the complete decision-making structure for the authorization of credit limits. Each customer is a candidate for credit analysis, regardless of perceived size or importance. The assessment should take into consideration both financial and non-financial information. 8

9 Based on the credit assessment, each customer should be assigned a credit limit that reflects the perceived degree of creditworthiness and expected sales. Existing customers should be reviewed to ensure that exposure towards the customer is acceptable. The frequency of these reviews would depend on risk and exposure but should take place at least on an annual basis. Major changes in a customer s risk status should trigger changes to the credit limits. Sandvik entities must share information with one another to ensure timely recognition of any developing problems Standard Credit Granting Process The decision-making process and level of authorization regarding credit limits should be clearly defined in the GC credit policy and adhered to. This might include escalation rules according to BA credit policy. The assessment as to the customer s creditworthiness and the recommendation of a credit limit lies with the Credit Function, whereas the final decision lies with the proper sales manager for the area of responsibility concerned, unless escalated according to BA policy. Based on the risk analysis carried out, each customer should be assigned a credit limit that reflects: Credit risk Customer s current credit exposure The volume of planned sales Payment terms The customer s maximum credit limit represents the aggregated value of the following: Outstanding accounts receivables Drafts discounted with recourse Existing order backlog New request from customer Only the Credit function should be authorized to update or change risk categories and credit limits in the customer master file Simplified credit granting procedure for small accounts A lower limit should be defined within which the sales department is authorized to give credit approval. This simplified procedure is allowed only when standard payment conditions are applied. The lower limit specified for the simplified credit granting procedure is to be stated in the Group Company Credit Policy Cross Country Sales The sales organization is responsible for payment terms extended to the customers. These are however normal standard terms routinely applied in the country/market. In cross-border sales, where the buyer is in a different country than the seller, the payment terms become a special issue, in most cases adding also the country risk into the transaction. Also the costs of the terms need to be addressed, both in direct costs of the instruments and calculated capital costs of the prolonged terms many times involved. In the case of Sandvik Mining/Construction, please note SM/C minimum standards for all tenders (and therefore contracts) for terms and conditions (including payment terms) that must 9

10 always be adhered to, with specific approval levels for tenders with e.g. no down payment and/or credit period after delivery. If a tender does not fulfill these requirements, it would need a prior approval from SM/C management (SM/C Tender approval guidelines). Defined payment terms Regardless the form or instrument, the payment terms need to be clearly defined in the offer or contract. The exact required point of time of payment (if not defined date) needs to be tied to invoice date or transport document date, or in case of advance payment, to the date of seller s notice of a certain milestone as agreed, e.g. order acknowledgement. In case the (partial/ residual) payment is requested to be made based on performance of the delivered goods, the contract has to include clause for the payment to be made however latest x days from invoice /transport document date. Please see detailed payment terms for SMT; SM/C terms are available in Sales Tools in Lotus Notes. Note the late payment clause to be included in the contract. Special terms commonly used in cross border sales are: Advance Payment Letter of Credit Payment against Documents Open account Advance payment 100% payable in advance before the shipment; can be split into x% at the time of order and y% latest z days/weeks before the estimated ex-works availability (depending on the goods). Advance payment guarantee may be requested by the customer to cover the payment made up to the delivery, however this should be be suggested only if advance payment terms otherwise is rejected. Advance payments are most commonly used in CIS, Middle East and Africa, however it is preferable for Sandvik as seller to secure a certain amount of down payment in any transaction. Letter of Credit The LC is a payment instrument involving Buyer s and Seller s banks. It is a binding obligation of the Issuing Bank (=Buyer's Bank) to pay to the Beneficiary (the Seller) the said amount of money when he has complied with the terms of the LC and presented the shipping documents required under the LC. That means that the Issuing Bank takes the risk on the Buyer, which may affect the LC opening process. The LC is to be issued under ICC rules for Uniform Rules for Documentary Credits UCP600. Confirmed LC By having the LC confirmed by his own bank (Advising Bank), the Seller also avoids the risk related to the Buyer's Bank and the Buyer's country. When the LC is confirmed (and documents are in accordance with the LC terms), the Confirming bank pays to the Seller regardless the Buyer's or the Issuing Bank's ability/willingness to pay. Thus a confirmed LC is a very secure and efficient instrument that enables the payment to be received to Seller normally within 3 weeks from the B/L date. Confirmation is to be required to secure the payment received without delays. A silent confirmation can be agreed with the Seller s bank if the strong practice in Buyer s country prohibits the Issuing banks to add confirmation request (e.g. China). Beneficiary The best possible Net Working Capital effect is gained when the delivering factory is the Seller and Beneficiary of the LC, as the document preparation and presentation to the bank can be made within short period after the goods have been loaded on vessel or truck at origin. Having substantial amount of LC transactions at the factories, Sandvik can also benefit from the advantages of volumes for optimized terms with the partner banks. Thus, the supplying factory should be stated as the Beneficiary as a general rule. The LC can also be routed through agreed partner banks not necessary in the Seller s country to gain best possible terms. Payment terms under LC The LC can be payable at sight (against the documents) or after an agreed period (Deferred 10

11 Payment or Usance LC) from B/L date, either until the goods reach the destination port (60-90 days) or giving the Buyer a credit from 180 days up to 5 years with agreed repayment during the credit period. The costs of the credit period need to be addressed and agreed before the credit terms can be accepted. The availability of such a credit period depends on the confirming bank s willingness and ability to agree to such an arrangement. The costs of the credit include the EURibor/Libor market rate, confirmation fee and discounting margin (contact your Payment Advisory for details and calculations). Contract terms to enable acceptable LC terms Regardless the LC is a payment instrument with its own terms and as such separate from the contract, the terms in contract need to be considered from the LC point of view: Issuing bank and payment term to be acceptable (check with Payment Advisory or respective contact at the factory). The terms should not include any documents depending on customer or otherwise be impossible to arrange at the time of shipment for presentation, also vessel certificates or third party inspection reports should be avoided. The beneficiary s correct name and goods description must be ensured. Avoid the retention money terms % payable later against customer s acceptance letter is in some cases unavoidable (e.g. Syria, China), o Add however latest x days from invoice or B/L date clause. o Suggest performance bond to be presented with the shipping documents to allow 100% at sight terms. Contract amount 100% under LC (unless separate down payment agreed); unavoidable retention money to be included. Note: latest date of shipment means loading on board at port the date has to allow at least 2 weeks after the estimated goods availability at the factory. Bank charges: all to the applicant, or at least all outside Seller s country. If possible, ask the buyer to arrange a draft LC first to check and agree the final terms. LC process (doc, 62 KB, ) Terms and points to watch basis for opening instructions (doc, 58 KB, ) Payment against Documents The payment can be agreed to be made against the original shipping documents to be sent to the Buyer s bank through the Seller s bank, thus if this terms is agreed, the Buyer s bank needs to be added in the order. The Buyer gets a notice from his bank to collect the documents, which he receives after effecting the payment instruction to his bank. The Buyer s bank is not involved in nor liable to the payment, but returns the documents if the Buyer does not collect them. Thus this term is not secured, and gives some protection only with sea shipments where the Buyer does not get the original B/Ls until payment is made. In most cases air shipment is received without the original documents. The payment under PAD can be at sight or against acceptance of Promissary Note or Bill of Exchange payable xx days after B/L date. Note the costs involved in the credit period. Open account Cross border may also include open account terms with payment x days after delivery, if the customer and country risks are limited and the customer is well known and old customer of Sandvik. This is however to be agreed on case-by-case basis, and can be due to e.g. the customer being tax exempt and this restricts the seller outside the buyer s country. In case of an international customer with buying subsidiary in a high risk country, an open account term to the subsidiary should include a parent company guarantee to be acceptable exception from the normal payment terms to that country. 11

12 4.3. Credit Monitoring and Review The Credit Function should review all accounts at least once a year. In addition to that, a customer s creditworthiness should be reviewed individually whenever adverse changes in a customer s payment behavior or credit risk are recorded or can be anticipated. The Sales Department should forward information considered important in judging the creditworthiness of the customer to the Credit Function. The following factors should be considered when monitoring customer accounts: The payment behavior of the customer Current credit exposure compared to current credit limits (look for unbalances) External information regarding credit risk The sales history and planned sales The profitability of the customer The entity s budget commitment for accounts receivables turnover (DSO) Changes in the customer s status should trigger changes in risk categories and credit limits where relevant. 12

13 5. Sales/Operative Process Terms of payment should not be used as an active competitive device. The target of the Sandvik Group should be to grant as short payment terms as possible and all possibilities to influence the market actively in the direction of shorter credit terms are to be tried. The payment terms should be specified in the sales agreement between the customer and Sandvik. The sales agreement should take into consideration various possibilities to secure receivables with a view to minimizing credit risks. The following tools should be considered (and for further reference, please see section 4.2.3) Retention of title Down payments and cash deposits Letters of Credit (Export sales) Bank or parent company guarantees Credit insurance All employees dealing with account receivables (Credit Function and Sales personnel) should be aware of the use, costs and benefits of the tools mentioned above. Training to sales and credit personnel should be given where necessary Payment terms Authority to grant payment terms The target for the Sandvik group should be to grant as short payment terms as possible. Payment terms, granted and taken, differ substantially between different regions, countries and industries. Sandvik Credit publishes recommended payment terms per country, which should be regarded as a base when negotiating contracts with customers. The payment terms should be clearly specified in the commercial agreement between the customer and Sandvik. The Sales Management is responsible for setting terms of payment. The Field Sales should only be authorized to approve standard terms. Special terms should be approved by the Group Company Manager except for substantial deviations from standard terms, in which case the decision should be made jointly by the Group Company Manager and the Credit Function. The Group Company Manager is responsible for ensuring that all persons who are authorized to approve credit terms (including standard terms) have a proper understanding of the costs involved. The Credit Function should assist him in this work. The standard terms of payment, the authority to approve special terms and the limit over which a decision must be made jointly by the Group Company Manager and the Credit Function must be stated in the GC Credit Policy Standard Terms of payment The standard terms of payment are defined as terms, which are routinely applied to credit customers. There should normally be only one standard term of payment per market/ country. The standard terms of payment should be applied to all new customers who have been assigned a credit limit. Standard Terms of Payment are at all times published and updated on the Sandvik Group intranet Special Terms of payment All deviations from standard terms of payment are defined as special terms of payment. 13

14 If the payment term of an existing contract is changed, or if a new customer requests a term that deviates from the market norm or standard payment term, the cost of capital must be taken into account. The cost of capital is based upon The current Sandvik ROCE target if the payment term in days is prolonged or The current market interest rate if it is shortened Customer Financing All customer credit with longer payment terms than 1 year is defined as Customer Financing. The Sandvik Group is operating Customer Finance via own finance companies, vendor programs with selected parties, and rental fleets. The Board of Directors has granted a risk limit for this operation. Customer Finance related processes are performed or supervised by Sandvik Credit, a part of Sandvik Financial Services. Customer Finance is different from special payment terms by the following criteria: The Customer Financing agreements are mostly categorized as financial or operational leases A contract is issued, reflecting a payment plan agreed with the customer The financing scheme is longer than 1 year, up until 7 years Monthly or otherwise timely installments are part of the agreement Sandvik Credit carries the responsibility in the finance companies for the following: Credit evaluations Documentation Administration Collection Repossession (se support below) The BA s act as a supporting function to the above in connection with: Collecting signatures on the loan documentation and at delivery of equipment Non-payment events Repossession of equipment Remarketing of the equipment Sandvik Credit carries the following responsibility for the vendor programs: Selection of the vendor partners Residual risks in the form of first loss guarantees Reporting of other risks on behalf of Sandvik The BA s act as a supporting function to the vendor programs as per the agreements for each specific program. The management and control of the Customer Financing business and the Rental Fleet is covered in separate policies respectively Cash Discounts The general Group policy is that cash discounts should not be used. Main reasons for this being: Customers take advantage of discounts although paying late Additional administrative work is involved High costs result in reduction in net revenue If local conditions make it necessary to grant cash discounts then this is a marketing decision. 14

15 Discounting can be used as an incentive for customers to pay upon receipt of services, thereby avoiding the use of credit terms. While discounting has the advantage of potentially shortening the average collection period it also reduces net revenue. Before deciding to offer cash discounts, one should conduct an analysis of the effect that the utilization of discounting will have on net revenue. This estimate should be balanced against the costs of continuing to hold receivables at their existing levels, which is effectively the rate of return required by Sandvik applied to the annual carrying cost of receivables. Another issue for consideration is the alternative uses to which the funds tied-up in receivables could be put. The costs of cash discounts must be compensated in the price to the customer. The authority to approve cash discounts should be stated in the local GC Credit Policy. 5.2 Factoring Factoring is a financial transaction whereby a business sells its accounts receivable (i.e., invoices) to a third party (called a factor) at a discount in exchange for immediate cash with which to finance continued business. Factoring is also a word often misused synonymously with invoice discounting - factoring is the sale of receivables whereas invoice discounting refers to borrowing where the receivable is used as collateral. Reasons for using any form of factoring are typically cash flow or financing shortage or fluctuations, reducing working capital and mitigating credit risk. For a number of reasons, Sandvik refrains from using any form of factoring as described: Factoring is nearly always unfavorably expensive. Working capital should primarily be improved by quality in lead times and processes. Sandvik has a number of more favorable financing options. Sold or mortgaged receivables may still return to Sandvik s liability as recoursed bad debts, since the factor may in his turn lose out on the customer s payment. The customer will be informed that Sandvik invoices are sold or mortgaged, possibly causing a disturbed image to the Sandvik brand. If necessary, credit risk can be mitigated more favorably and securely. 5.3 Information to customers on Sandvik s credit policy Customers should be informed of Sandvik s credit policy or any changes in our credit policy by the salesperson when setting up or renegotiating the sales agreement. It is important to inform customers at the time the order is placed, that the payment term is an important piece of the total package the price being connected to the terms offered. Most customers will respect open communications. As far as local practice permits, the following information should be relayed: Terms of payment Cash Discounts agreed upon Credit agreed upon Sandvik s right to hold credit or deliveries on overdue accounts Interest or/and collection costs applicable on overdue accounts Contact in the credit and collections department in case of customer queries This aspect should be included in training programs for sales staff. 15

16 6. Collection Process The Sandvik Group does not accept late payments. All Group Companies should ensure that the customers pay in accordance with agreed terms. The collection process should be prioritized and follow the Credit Management Guidelines. The collection process starts when an invoice is due and is not complete until the full payment is received. As a rule of thumb, a payment is late if it is not available on the designated bank account by the due date specified on the invoice. Bear in mind: A sale is a gift until the payment is received Establishment of an administrative collection routine An administrative collection routine must be established between the Credit Function and the customer s Financial Department. The administrative collection routine should be used for clean deals, i.e. no dispute, late deliveries, quality issues, etc. Claim Handling If the Credit Department detects a dispute, the responsible salesperson should be immediately informed. All disputes should be addressed immediately and handled by the responsible salesperson. Likewise, the sales organization is responsible for immediately informing the Credit Function of any dispute or claim so that no unnecessary reminders are sent to the customer. The Credit Function and Sales Department are jointly responsible for setting up procedures that handle claims and queries from the customers in the most efficient way. Administrative collection routine By establishing an administrative contact between the Credit Function and the customer s Financial Department, Sandvik aims to: Achieve a higher focus on the collection process as well as address overdue accounts with a more structured and uniform approach. Allow sales personnel to focus on selling rather than collecting during contact with customers. The administrative routine should be used from the time the invoice is due up until 30 days after due date. If payment is not received by this time, the Credit Function should hand over the collection responsibility to the responsible salesman The recommended collection process The collection process is a constantly ongoing process and there should be no room for unpleasant surprises. The recommended collection process is shown below. Pse note that the date limitations are Sandvik standard, but more restrictive limitations may be used by any BA. 16

17 Sales Department Proactive collection process Sales Contact Customer Payment Fourth Customer Contact Payment No If dispute, Sales immediately takes over collection responsibility Yes Yes Credit Control Function First Second Invoice Due Payment Customer Payment Customer Payment contact contact Third Customer contact Legal Action Yes Yes Yes Clear A/R ledger Warn credit hold -Credit hold -Warn delivery stop Delivery stop Invoice Date Due Date Due Date + 7 Days Due Date + 14 Days Due Date + 30 Days Due date + 45 Days Legal collection Due Date + 60 Days Administrative Collection routine if clean deal Reporting and Follow-up Escalated collection Invoice date until due date: For larger invoices, contact should be made with the customer by the Credit Function well in advance of the due date to ensure that the payment will be carried out in accordance with the existing sales agreement. This contact, functions as an early warning if the customer states any reason for not paying in time and the necessary action to secure payment can be taken. Due date: Flag for invoices becoming due. Close observation by Credit Function. As soon as an invoice is paid in full it should be cleared from the accounts receivables ledger and the collection process for the specific invoice is closed. Due date +7 days: 1 st phone call and reminding letter to check why invoice is not paid. A phone call to a customer is usually more effective than a reminder letter since direct contact is harder for the customer to neglect. However, a reminder letter is a better way to document the reminder process and to inform the customer about actions that will be taken if payments are not received. Due date +14 days: 2 nd phone call and reminder letter. Warning of credit hold if payment has not been received by due date +30 days. Due date +30 days: 3 rd phone call and reminder letter. Account put on credit hold. Warning of Delivery Stop if payment is not received by due date +45 days. Collection responsibility handed over to Sales Department. 17

18 Due date +45 days: 4 th phone call and reminder letter. Delivery Stop. If overdue receivables are undisputed and not a result of minor administrative errors on the part of the customer or Sandvik s Credit Function, the customer account should routinely be put on delivery stop by the Credit Function no later than 45 days after due date. Warning of legal collection if payment is not received by due date +60 days. Due Date +60 days: Legal Collection. If no dispute, legal collection should be initiated maximum 60 days after due date by the Credit Department. The invoice(s) is (are) handed over for legal collection according to domestic legislation and proceedings. The Credit Function is responsible for the hand-over. Disregarding the rules of delivery stop (at due date+45 days) or legal collection (at due date+60 days) is subject to a documented decision by SAM or senior manager in similar position. The decision shall include and express a relevant justification as to why exception to the collection rules was granted. This record must then be kept in an orderly fashion for future reference General issues Below are some points to bear in mind throughout the whole collection process: Prioritize collection efforts by amount and risk. Ensure that the Sales function assists in collecting receivables and to resolving disputes that are delaying payments, for e.g. where the customer is waiting for a credit note. The Credit Function should be immediately informed of all occurring customer claims, litigations and other matters that may affect the collections. Phone calls are usually a more effective collection method than reminder letters only. In cases, where non-payment relates to a missing or incorrect invoice, a copy of the invoice should be sent to the customer as soon as possible. The Credit Function should distribute an overdue report weekly to the relevant sales representatives. The status of overdue receivables should be addressed in the monthly or otherwise timely management meeting. In case of partial deliveries, contact the customer before due date to learn about possible problems and to ensure that payment will be made by due date. Establish contacts with the person responsible for payments in the customer s organization as soon as the account is set up or the first sale is made. Ensure that the collection contacts are at the appropriate level of the organization. If there is a problem in getting attention from the customer, move up one level in both in your own and the customer organizations. Make sure that the customer master data is regularly updated. Make regular checks that agreed payment terms according to sales agreement match actual payment terms printed on the invoice. The direct involvement of top management is to be obtained whenever the overdue balance or the level of credit risk is substantial Late Payment Interest In the sales agreements, Sandvik should strive for the inclusion of a late payment interest clause in order to cover the additional expense related to payment failure on agreed due date. In some jurisdictions, the right to get reimbursed by customers for late payments is regulated 18

19 by law and in these instances, Sandvik should make sure to protect its interests and enforce such reimbursement rights Reporting and Follow-up An Aging Analysis must be generated per customer with each dunning procedure and is to be used by the Credit Function as an operative tool for collection routines. The information generated above should be passed on to the responsible salesman and the Sales Manager. 19

20 7. Accounts receivable and bad debts provision rules 7.1. Scope This document sets the basic applicable rules for bad debts provisions and real bad debts accounting. The typical situation is customers in default or in financial trouble resulting in deteriorated payment behavior. As the risk of losing accounts receivable value increases by time, minimum provision will also be made for long overdue accounts receivable regardless of reason of non-payment. These rules shall not be applied for accounts receivable in situations where both the creditor and the debtor are Sandvik Group companies Bad debts provision basis There must always be a clear specification based on individual customer balances to the bad debts provisions made. Provisions for bad debts of a general valuation nature, for example in accordance with local practice, should not be applied in the Group reporting. Two basic criteria consist the basis for a bad debts provision: negative information about the customer s financial situation, and the overdue age of the account receivable as described as follows Negative information Provisions for bad debts must be based on customer specific information in determining the likelihood of expected payment of due or overdue balances to Sandvik. A number of serious warning signs on the part of the Customer indicate insolvency and increased risk of non-payment: Rapidly or dramatically deteriorating payment behavior. The customer himself or a counterpart has filed for the customer s bankruptcy. Negative financial development by substantial numbers. Liabilities exceed assets. Equity capital is totally or partially spent. Suits or liens have been filed against the customer. Deteriorating credit rating by major credit agency. Management or key persons have resigned. The Board, or parts of it, has resigned. Numerous changes of positions within the Board. The auditor (-s) have resigned or are exchanged frequently. Knowledge about other creditors not receiving payment. The customer s bank withdraws or substantially constrains credits lines. These or similar events are, individually or in combination, defined as negative information and consist well founded reasons for a bad debts provision Age structure The overdue age structure in combination with negative information is decisive for making bad debts provisions as non-payment risk increases significantly by time. Sandvik applies provisions thus described: 20

21 A/R bad debts provision Not due or days past due days past due 361 > days past due Minimum provision by age At least 50% of the customer balance is provided 100% of the customer balance is provided Negative information 0% - 100% of the customer balance is provided 50% - 100% of the customer balance is provided 100% of the customer balance is provided Credit security Estimated provision Estimated provision Estimated provision 7.5. Provision involving Payment Plans In some cases, payment plans are amicably set up and settled between Sandvik and the customer. However, provisions are in these cases to be calculated on the basis of the original invoice due date, and still on the basis of rules described in sections 7.3 and 7.4. As the balance diminishes, the provision is released accordingly Credit Securities Non-payment risks may be mitigated by credit securities. Adjustments of the provision rules according to item 7.4 may be made in cases where credit securities totally or partially mitigate the risk: Payment guarantee issued by bank. Letter of credit issued by bank. Mother company guarantee. Principal or personal guarantee. Export credit guarantee issued by export credits guarantee board or similar institution. Credit insurance. Pledge on sold equipment. The extent to which a bad debt provision be adjusted will have to be assessed on a case-bycase basis Writing off Upon verification of the fact that an account receivable represents no value, it should be removed from the accounts receivable ledger and from the balance sheet. Any provisions made will be released at the same time. Such verifications are: Notification that bankruptcy procedures are concluded and that no payment will be made against the receivable. Collections have proved useless. If there is a third party collector involved, notification of any such collection failure has been made and the point is reached where additional efforts to collect are considered useless or too costly. Documented incapability of amicably resolving a customer complaint or a dispute Provisions for tax purposes Provisions for bad debts for result appropriation purposes in accordance with local tax laws should not be applied in the Group reporting. However, such provisions may have an effect on deferred tax. 21

22 7.9. Group reporting The portion of the accounts receivable that is at non-collectible risk (the bad debts provision) is reported on the account A151900, Reserve for doubtful accounts in the R-320, Balance Sheet and on the account A635200, Change in the reserve for doubtful accounts, in the R-300, Result Statement. The actual amount of confirmed uncollectible receivable is written off as an expense on the account A635100, Real bad debts. Any associated reserve for doubtful accounts is released at the same time. Note that bad debts should not be confused with warranty costs. Such costs are charged to cost of goods sold. 8. Control and Follow-up Process 8.1. Key Performance Indicators The Group Company should set targets for the following KPI s: DSO (Days Sales Outstanding), XX DSO is the main KPI for account receivables and measures the average number of days that elapse between invoice date and the receipt of payment. DSO is a part of Net Working Capital publicly reported by Sandvik on a quarterly frequency. DSO is calculated this way: (A/R monthly ingoing + outgoing balance)/2 Sales, VAT included, 3 latest months * 4 Overdue receivables as a percentage of total accounts receivables, XX% Actual bad debt expense including write-down for suspected bad debt in relation to sales, XX% Proportion of high risk receivables in relation to total receivables, XX% 8.2. Target setting Every year, the Credit Function and Senior Management should together establish new goals for the coming year. These goals are based upon many factors, including the company s sales and financial requirements, competition and our endeavor to move into new markets. The targets for the KPI s stated above should: Be worked out by the Credit Function in co-operation with the Account Managers and the Group Company Manager and reviewed annually. Be in line with the Group targets and Business Area/Product Area targets. Express a long-term commitment against which the budgeted and actual performance can be monitored. Be stated in the GC Credit Policy. Example The company has established the following goals: a) DSO of 45 days. b) Maintain 85% of A/R in the Current Aging Category. c) Maintain less than 2% of A/R in the 60+ Aging Category. d) Bad Debt write-offs should be less than 1.5% of yearly sales. e) Proportion of high-risk receivables in relation to total receivables should be less than 10%. 22

23 8.3. Control and Internal Reporting Weekly Aging Analysis An overdue report with aging analysis should be distributed to all relevant sales people on regular basis (at least every 2 weeks) Monthly and Quarterly reviews Credit Exposure A comparison should be made of the accounts receivables outstanding and the approved credit limits. Decisions to increase or decrease existing limits should be taken after an enquiry with the sales division about expected sales and terms of payment. The credit exposure for high-risk accounts (risk category 4 and 5) should be followed and analyzed regularly. The situation should be reported to the managing director on a monthly basis as follows: Actual bad debt expense including write-down for suspected bad debt in relation to sales, XX% Proportion of high risk receivables in relation to total receivables, XX% The financial management is responsible for the control and reporting of credit exposure. Credit Performance Credit performance should be monitored and reported by the Credit Manager to the GC Manager as follows: Account receivables with a specification of current and overdue receivables Days Sales Outstanding (DSO) actual compared to budgeted. Statistics concerning payment behavior Payment precision of important customers should be monitored and reported to the Account Managers. Small accounts that delay payments repeatedly should be identified and reported. After discussions with the relevant Account Manager a decision whether or not to switch to cash terms should be taken Annual review of credit structure An annual review of the credit structure is to be made jointly by the Credit Manager and the Group Company Manager in connection with the budget work. This review should: Analyze the structure of the Terms of payment Customers with special payment terms should be identified and reviewed to see if it is possible to reduce the special terms or renegotiate the sales agreement in terms of price. Items considered should include: Profit margins Cost of extra credit taken by customer Payment behavior and administrative costs generated through collection procedures Review the policy for the application of special terms with regard to the financial situation of the company, the expected business trend and the marketing situation. Agree on a Budget for average terms of sales granted Review the credit exposure situation by analyzing sales on high-risk accounts and review the bad debts, which have occurred since the last review. Reconcile the control figures agreed upon with the targets set (chapter 8.2) 23