The problem of late payments can be solved one corporation at a time when finance, treasury, procurement and AP/shared services work together toward long-term, holistic process improvements that benefit their company as well as their supply chain.
One of the lingering effects of the most recent financial crisis is chronic late payment of invoices by many large corporations. In its European Payment Report for 2015, credit management company Intrum Justitia shared that more than 40% of businesses polled say that their customers’ late payments and non-payments are hindering their growth. Another 31% say that their company’s long-term survival is at risk due to late payments.
The situation is much the same in the Americas. In its 2015 Payment Practices Barometer Americas report, trade credit insurance company Atradius found that a third of the businesses they surveyed in the United States, Canada, Mexico and Brazil report that 20% of the value of their B-to-B receivables is more than 90 days overdue.
This liquidity squeeze affects more than just the immediate suppliers whose cash flow is restricted by the late payments. It ripples down the tiers of the supply chain, multiplying risk for the buyer and ultimately dragging down the local and global economy.
Obviously, this isn’t good for business and that’s why it’s important for global corporates to take action now.
The limitations of government late payment initiatives
Governments are increasingly introducing programs to address late payments, in most cases with mixed results. In the U.S., the federal government’s successful QuickPay initiative requires federal agencies to pay small business contractors and subcontractors within 15 days.
Following on QuickPay’s heels was the SupplierPay program, which is a federal government and private sector partnership designed to encourage large companies to pay their suppliers more promptly. After just over a year, the program lists 47 participating large buyers on its website that have pledged to pay their suppliers faster, but that number represents a small percentage of the big corporates doing business in the U.S.
The Prompt Payment Code is an industry-led, voluntary program in the UK administered by the Chartered Institute of Credit Management on behalf of the Department for Business Innovation & Skills. Its signatories agree to a maximum 60-day payment term, with a goal of establishing a 30-day term as standard practice. The Prompt Payment Code has been in effect since 2008, but a 2015 report from the Asset Based Finance Association (ABFA) found that late payments owed to small and medium-sized businesses in the UK have still increased by more than a third over the past four years.
The European Late Payment Directive, launched in the European Union in 2013, recommends maximum payment periods of 60 days for companies and 30 days for public authorities. The European Payment report referenced earlier found that only about a third of businesses in the EU say they are familiar with the directive and as few as 6% say they have seen a positive effect from it.
Social implications of late payments
Recently, late payers are finding themselves subject to more public scrutiny and notoriety. In the UK, the Forum of Private Business, which represents small business, has established a “Hall of Shame” listing late payers. Around the world, companies known for chronic late payment are often called out in the media.
With the exception of the mandatory QuickPay program, most of the government initiatives mentioned earlier depend mainly on public visibility to ensure compliance. In most cases, participating companies who are found to have violated the terms of the agreements face few consequences other than being removed from the program rolls.
Economic consequences of delayed and extended payments
While it’s true that extending days payable outstanding (DPO) improves a company’s balance sheet, it’s detrimental to both buyers and suppliers in the long run. In “It’s time to force companies to unlock cash piles,” published in November 2015 in The Guardian, author Phillip Inman referenced the trillions of dollars, pounds, euros and yen sitting inactive on company balance sheets while economies around the world suffer from lack of liquidity.
This is compounded by the fact that regulatory responses to the financial crisis including Basel III have made it difficult or impossible for smaller companies like the ones that comprise many corporates’ supplier bases to borrow at reasonable rates to sustain their business – assuming they are able to borrow at all.
Cash-starved suppliers are a risk to the supply chain. According to Ed Spitaletta, president of New Jersey-based food storage container manufacturer Storemaxx, “Our suppliers face the same challenges that we do with their suppliers: everyone needs their cash flow quicker. Having steady cash flow and being able to pay our suppliers promptly grows our capacity to distribute and sell products. It’s simple mathematics.”
Late payment versus extended payment terms
Late payments are sometimes conflated in the press with the extended payment terms that many companies began adopting during the financial crisis. Those longer payment cycles are here to stay. While they originally were geared toward imports that took longer to fulfill, longer terms have been a trend over the last 10 years that has started at the top of the supply chain, particularly in retail. These buyers started to realize that many goods have shelf lives up to 360 days.
Paying for those goods earlier has been a practice derided by large consulting firms and done away with by most major retailers. The cause/effect has been Tier 1 suppliers turning around and lengthening payment terms for their suppliers. Today that cycle continues to move down the supply chain – through branded goods, manufactured materials, and capital equipment suppliers.
Seeking solutions that benefit buyers and suppliers
Thinking long-term is the key to bridging the gap between buyers’ desire to extend DPO and suppliers’ need for quicker cash flow. It makes a difference when large companies work with their suppliers to find solutions to improve their supply chain health and the economy at large, as a result of turning away from deliberate late payment.
Companies that extend payment terms typically do so in conjunction with the launch of one or more supply chain finance (SCF) programs. That way, suppliers can keep their terms the same or accelerate payment even faster if they choose.
Early adopters including Costco Wholesale, Toys“R”Us and Mohawk Industries have discovered the value of liberating working capital via buyer and supplier collaboration through the market-based dynamic discounting solution C2FO.
C2FO is a viable long-term solution that addresses the needs of both buyers and suppliers. This is especially true when it’s implemented as part of a holistic supply chain early payment program that offers traditional SCF to the larger suppliers and P-cards on the small and micro-supplier end of the spectrum.
Suppliers and buyers can collaborate to discover the optimal rate for early payment of approved invoices at a price that both parties find acceptable. That way, buyers can improve their gross margins and EBITDA while generating higher returns on cash, while suppliers can reap the benefits of improved cash flow when they need it, at rates they can control.
Matched with SCF and P-cards, this process can encompass a buyer’s entire supply chain. The buyer benefits from the invoice discounts and the de-risking of their supply chain. The suppliers gain the cash flow they need for operations, manufacturing, hiring and expansion – and by extension, their own suppliers experience the same gains.
It’s a win for the buyers, the suppliers and the economy at large.