Analysis of accounts receivable management practices of insurance companies in Uganda

Abstract

Working capital management is a business strategy intended to ensure that a company functions efficiently by monitoring and using its current assets and liabilities to the best effect. The primary purpose of working capital management is to enable the company to maintain sufficient cash flow to meet its short-term operating costs and short-term debt obligations (Mathuva D, 2015). The strategy mainly focuses on accounts receivable and credit management which is an important discipline in business especially in the insurance sector. The working capital decision, which also includes accounts receivable, looks at working capital as an operating capital that is readily available to a firm (Teruel and Solano, 2007). Accounts receivable was defined Robert & Anthony, (1995) as amounts owed to the business enterprise, usually by its customers Therefore, proper management of working capital and prompt collection of Accounts Receivable helps insurance companies pay off its operating expenses and claims as and when they arise. Singh, (2019) noted that Receivables arise due credit sales by a Company. With increasing competition in the market, it is not always possible to sell goods and services on cash basis. To remain competitive in the market a company has to take the support of credit sales. Such credit sales lead to the creation of receivables and the creation of receivables may result in chances of bad debts. Other things being constant, the higher the amount of receivables, the higher will be the chances of bad debts and vice-versa. However, the chances of bad debts can be minimized if cash is collected from Debtors quickly. With the current 30 Insurance Companies in Uganda (Appendix 3), competition is very stiff and therefore insurance companies have to sale on credit but the possibility of incurring bad debts by insurance companies is likely to be high if they don’t collect on time. Berk and Demarzo (2007), explained that net working capital is the capital required in the short term to run the business. It is the difference between current assets and current liabilities and it is recorded in the statement of financial position. Smith, (1980) noted that working capital is essential in facilitating daily functions and enables firms to achieve their corporate goals. One of the most important organizational goal which a firm must strive to achieve to survive in the long run is profitability (Ongre and kusa, 2013). Therefore, Insurance Companies must strive to collect debts on time to avoid bad debts which may affect their profitability. Kimtai (2006), noted that Account Receivable is the largest and most liquid of the corporate assets which are very important in the going concern of a company. Pike and Neale, (2006) consider accounts receivable as both a source and use of finance in that it can be obtained and extended but it can be unproductive unless if it generates additional business since it ties up scarce financial resources and exposes organizations to the risk of default in situations where the credit period is lengthy. Mbula, Membe, Njeru, (2016) elucidated that huge amounts of accounts receivable are likely to reduce the firm value and as such the need to have the best Accounts Receivable practices. Therefore, in order for insurance companies to maintain a high market value they have to collect their outstanding debts to maintain a strong net worth in their balance sheet. Magezi (2003), noted that poor credit management by insurance companies leads to accumulation of debts which ultimately leads to bad debt write off and hence poor financial performance. Kadi (2003), observes that some insurance companies grant credit to insureds and insurance brokers without carrying out proper analysis of the client history, track record and without putting in place mechanism for collecting debts. Iqbal and Mirakhor (2007), noted that a robust credit control function and collection mechanism can help organizations to reduce their exposure to bad debt write off and enhance their financial performance. Therefore, insurance Companies should put in place robust credit control functions to help accelerate collection of debts and to reduce on their exposure to bad debt write off. According to Standard and Poor, (2013) insurance companies as credit bearing institutions can fail to pay claims and management expenses if credit granted to cedants is not managed adequately. This indicates that management of credit and mechanisms for collection of debts should take centre stage in the operations of insurance companies.