The relationship between credit policy and firms’ profitability: empirical evidence from Indian pharmaceutical sector

Najib H.S Farhan,Mohammad Yameen,Mosab I Tabash

doi:10.21511/imfi.17(2).2020.12

Abstract

Credit policy plays a vital role in the operational efficiency of credit departments as it reduces the ambiguity of credit departments’ functions by giving clear guidelines and instructions. It also reduces the loan default and speeds up accounts receivable turnover. This paper seeks to evaluate the effect of credit policy on the profitability of pharmaceutical firms listed on the Bombay Stock Exchange (BSE), using a balanced panel data of 82 pharmaceutical firms from 2008 to 2017. The number of days’ collection period and the number of days’ payable deferral period are chosen for measuring firms’ credit policy, while return on assets (ROA) is used for measuring firms’ profitability. It is found that the number of days’ collection period and the number of days’ payable deferral period have a negative and significant effect on the profitability of the pharmaceutical firms, while the control variables leverage, firm size, and age negatively impact the profitability of pharmaceutical firms. Financial managers in pharmaceutical companies should reduce the number of days’ collection period and increase the number of days’ deferral period to reduce the risk of bad debts. Furthermore, they should conduct a credit analysis to evaluate potential clients as it prevents bad debts.

Highlights

Receivables are not created when goods are sold on cash
This paper seeks to evaluate the effect of credit policy on the profitability of pharmaceutical firms listed on the Bombay Stock Exchange (BSE), using a balanced panel data of 82 pharmaceutical firms from 2008 to 2017
The results showed that trade receivables The review of previous studies has provided us the and payables have a different impact on cash hold- basic theory on credit policy and its impact on ing

Summary

INTRODUCTION

Receivables are not created when goods are sold on cash. It is created when sales are made on credit. Customers purchase goods and services from the company but do not pay promptly; payment is made at a later date Based on this understanding, accounts receivable are influenced by the policies a company sets for managing credits and the procedure designated for collecting them (Brigham & Ehrhardt, 2008; Moyer, McGuigan, Kretlow, & Nunez, 2005). The re- Kung’u (2015), Anil (2015), Waema and Nasieku searchers came up with seven motives behind (2009) advocated that the accounts payable period trade credit: competitiveness, investment, pricing, has a positive impact on firms’ performance. Other studies (e.g., Lin & Chou, 2015; firms’ performance motivated the researchers to Tsuruta, 2015) sought to evaluate the association conduct this research in the pharmaceutical inbetween bank credit and trade credit in China dustry.

METHODS

DISCUSSION

Findings

CONCLUSION