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It’s time to be “fair” about late payments and extended terms

Anthony Persse – EVP Financial Solutions, Proactis.

I am regularly reading about how late payments are the primary reason for the demise of many businesses. This IS often the case, however, are the payments really late? Or are the payments within initial terms, but based on (undocumented) extended terms? Have the invoices been issued accurately? Have the goods or services been issued to the terms agreed? Are there outstanding disputes?

These are just a couple of examples of the considerations when classing payments as “late,” and I believe that the issue is actually much broader than late payment…it is about effective supply-chain management.

In fact, while focusing on payments, a key consideration should be who actually defines the terms of payment? Is it the buyer or is it the supplier? Rightly or wrongly, it is often the former.

And when it comes to deciding whether the payments are actually late, I suspect it is the latter more often than not.

Is paying earlier economically viable…or worthwhile?
Consider this. By extending trade terms by just one day across all suppliers, using a simple calculation, a business with a £500m spend could deliver £1.37m of cash benefit to the balance sheet. Therefore, by taking terms from 30 days to 40 days the same business could generate £13.7m of cash. As such, it is not surprising that businesses use their Days Purchases Outstanding (DPO) as a mechanism to drive cash – cash that can be used to reduce debt, to invest and to ultimately create huge benefit to their business.

I am absolutely not condoning late payments, or extended terms. Working with thousands of SMEs over the years I know what the impact of extended credit terms can be. Even terms as short as 30 days can have a devastating impact on a small business, not only causing sleepless nights and stemming the joy of running their own company, but potentially leading to failure. There are many SMEs that refuse to work with certain business types and sizes (usually larger) in fear of longer payment terms that they cannot operate within, often missing out on great growth opportunities. In turn, the larger businesses also miss out on working with fantastic suppliers. Yet paying earlier may not be economically viable for them.

It’s important to note here that a debtor that has a long supply-chain process – including manufacture, stock days, and to compete, issues trade terms to their customers, that pay on shorter terms – runs the risk of having a long working capital gap. This gap must be funded somehow and can result in increased debt requirement or reduction of cash. The knock-on effect is less available cash for investment and potential growth. If we assume that this gap is funded through higher debt, this needs to be serviced and often feeds through the supply-chain either to the supplier or the customer (through increased costs), arguably making the business less competitive.

Conversely, for a business with a simple supply-chain, relatively short payment terms may seem excessive. A simple example is a grocer buying apples, who then sells them to consumers for cash just a couple of days later. Having payment terms of anything much greater than a few days seems unfair, albeit very beneficial to the grocer’s cash flows.

Payment terms that are reasonable for one debtor may not be reasonable for another. Standardisation of payment terms across all business types based on size is plainly unfair. Let’s not forget, terms are often based on the date of invoice. For some larger organisations processing an invoice can take days, or even weeks, as it needs to go through appropriate controls for matching and approval, which may also be decentralised (adding further complications and time). This means that if a supplier issues the actual invoice, well after the invoice date, with inaccurate data, or without pointing it to an associated purchase order, a swift payment becomes less likely. The time to fix one issue can be extensive within a large organisation, never mind many invoices.

Is paying earlier economically viable…or worthwhile?
If governmental bodies, large businesses, small businesses, regulators, insurers, technology providers and financiers all work together, businesses can achieve effective processing of invoices and harmonisation of working capital throughout the supply-chain.

In doing so, suppliers can:
  • Make sure payment terms are not excessive.
  • Be alerted to when an invoice has been approved for payment and by whom.
  • Get access to earlier payments against approved invoices, even when payment terms are justifiably longer than, say, 30 days.
  • Deliver accurate invoices.
The ultimate result is easier, less complicated access to liquidity.

As a further result, buyers can:
  • Speed up the approval of an invoice.
  • Get clear visibility of future payables.
  • Make supply-chain management smarter, through effective procurement processes.
  • Get a reasonable supply-chain recognition in the terms they offer.
  • Access a broader pool of appropriate suppliers.
  • Prevent reasons for suppliers to chase payments or early payments.
  • Focus on strategic supplier management rather than costly administrative processes.
I would be really keen to talk to businesses who want to work with us to make this happen. Please feel free to contact me on anthony.persse@proactis.com.