Company accounts information is easily available for all UK and most international companies. A credit scorecard is an established straightforward method of assessing the credit risk of any business. This page describes the methodology we use for determining the credit limit guidelines available online from our company search pages.
The credit scorecard methodology has been developed over twenty years by Steve Savva and is the copyright of Credit Management Training Limited.
The first stage is to obtain the latest copy of the company accounts and calculate various financial ratios. We use the following factors:
- Current ratio which is the current assets divided by the current liabilities.
- Liquid ratio which is the current assets less stock divided by the current liabilities.
- The net profit percentage or profit before tax divided by turnover multiplied by 100.
- Gearing or the long term creditors divided by the capital plus the reserves multiplied by 100.
- The stock turn which is the stock divided by the cost of sales multiplied by 365.
- The debtor days or trade debtors divided by turnover multiplied by 365.
- The interest cover which is the operating profit
divided by the interest.
These factors can now be used to determine the score on a credit scorecard depending on the average values expected for each factor. We use a matrix of average values for each industry sector to allow us to assign a score for each factor as follows:
- 4 points if the current ratio is greater or equal to a minimum value.
- 5 points if the liquid ratio is greater or equal to a minimum value.
- 2 points if the net profit percentage is above or equal to a minimum value.
- 3 points if the gearing as less than or equal to a maximum value but no points if the interest cover is zero.
- 2 points if the stock turn is equal or less than a maximum value.
- 1 point if the debtor days are equal to or less than a maximum.
- 3 points if the interest cover is more than or equal to a minimum value.
Now add up all the points to create a scorecard value and determine whether a maximum, minimum, or fair credit guideline can be applied:
- Scorecard value greater or equal to 15 allows a maximum credit guideline.
- Scorecard value between 10 and 14 allows a fair credit guideline.
- Scorecard value between 5 and 9 allows a minimum credit guideline.
- Scorecard value less than or equal to 4 does not allow us to set any credit guideline.
The credit guidelines are calculated from the net worth of the company taken from the latest accounts. The current or the liquid ratio is selected as the basis for the calculation according to the industry type and calculated as follows:
- Maximum credit guideline is 25% of the net worth multiplied by the appropriate ratio.
- Fair credit guideline is 15% of the net worth multiplied by the appropriate ratio.
- Minimum credit guideline is 5% of the net worth multiplied by the appropriate ratio.
Sometimes the credit guideline is not sufficient and a higher 'commercially minded' credit guideline based on turnover can be considered if the scorecard value is greater than or equal 15 and the current and liquid ratios give a score of 4 and 5 respectively. These guidelines use the same ratio selected according to industry sector but use the turnover instead of the net worth for the calculation:
- Maximum credit guideline is 5% of the turnover multiplied by the appropriate ratio.
- Fair credit guideline is 3% of the turnover multiplied by the appropriate ratio.
- Minimum credit guideline is 1% of the turnover multiplied by the appropriate ratio.