What To Do When Payment Terms Get Extended

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Here are four alternative forms of financing to get small to mid-sized suppliers through the squeeze.

Today, many businesses owners are feeling stretched — and not just because of the COVID-19 pandemic. 

Suppliers, many of them small to mid-sized enterprises (SMEs), often must wait 90 to 120 days — or longer — to receive invoice payments, which can lead to severe cash flow shortages. If SME owners can avoid insolvency, they often face other consequences, like the inability to pay bills, restock inventory, pay their staff, or invest in growth opportunities. With the current coronavirus pandemic and other economic uncertainties, that three- to-four-month waiting period for payment may seem like an eternity. 

Large corporates extend payment terms so  they can have more usable cash on hand, which can mean less cash in vendors’ hands when they need it. This can make for a challenging environment for SMEs, which often lack the credit history or other financial requirements to secure traditional bank loans.

Where do suppliers turn when terms are extended and they need cash flow? Fortunately, four alternative financing options can keep business operations running — and even growing — during extended payment periods.

In this article, we’ll discuss how business lines of credit, short-term business loans, invoice factoring and early payment programmes can provide cash flow relief when waiting 90 or more days for payment seems untenable.

Business line of credit

If a supplier expects a customer to extend payment terms regularly, and wants to safeguard against cash flow problems, a business line of credit (LOC) can provide a flexible solution. LOCs offer “revolving” credit, meaning that borrowers can draw funds at any time up to a predetermined limit and pay it off whenever they can. As with credit cards, paying off the balance replenishes the maximum accessible funds.

The process of obtaining a business line of credit is fairly straightforward. You can apply for an LOC from a bank or online lender, and agree to an interest rate and credit limit. Then, you can use the funds when necessary, paying off the balance when possible, or according to terms with the lender.

Of course, requirements, terms and rates will vary across lenders. Banks may require a credit score of at least 600 and yearly revenue benchmarks, while online lenders may be more lenient but carry higher interest rates and scheduled payments.

Business LOCs work well for business owners who know they’ll experience extended payment terms, but don’t know when it will happen. If, however, business owners are in the thick of it and can identify an immediate funding need, they should consider a short-term business loan.

Short-term business loans

Short-term business loans provide a lump sum of cash up front, which borrowers can pay off in monthly, weekly, or daily installments, typically over a term of three to 36 months, with interest rates starting around 8%. Perhaps a supplier can’t make payroll as a result of extended payment terms? A loan within that range should be enough for business owners to pay their staff during the time spent waiting for a customer’s payment.

Using short-term business loans is safest for companies that expect revenue in the near future. That’s why it’s a great practice for suppliers experiencing extended payment terms. The money will come, and the loan can be quickly repaid.

In contrast, if a company is having cash flow problems as a result of bad weather or a seasonal downswing, increased revenue may not be expected to arrive in the near future. Business owners using a short-term loan, in this case, run the risk of compiling interest and late fees, and damaging their credit score.

Small to mid-sized companies will need to show evidence of two years in business, a history of substantial revenue and a credit score of 600 to qualify for a short-term business loan. Companies lacking those qualifications may find online lenders with lighter requirements, but those loans will be more expensive.

Unsecured vs secured

Most non-traditional bank loans, including LOCs and short-term business loans, are unsecured, meaning no collateral is required. Nonetheless, secure loans (requiring collateral) may be the only option if the lender sees considerable risk.

Whether it’s a bank or online alternative, all lenders see credit score as the most accurate indicator of whether the borrower can pay back the loan. If an applicant’s credit score is on the low side, and there are no other financial indicators to compensate for it, lenders may require an agreement allowing them to seize assets upon default.

However, debt is not the only solution to cash flow problems created by extended payment terms. There are other financial solutions that provide SMEs with cash that is directly tied to their accounts receivable. 

Invoice factoring

Invoice factoring occurs when a company sells its outstanding invoices to a third party (the factor) at a discount. The factor advances 75% to 90% of the invoice amount up front, allowing the company to meet its immediate funding needs. The factor, now the owner of the invoice, collects from the original buyer when the invoice payment is due. Finally, the factor returns the remainder of the invoice amount, minus the discount to the supplier. Factoring rates usually begin at around 2% of the invoice, but could increase significantly with longer repayment periods.

Why are factors willing to purchase the invoices of SMEs whose credit scores are so low that they can’t qualify for a short-term loan? The factor’s priority, once they own the invoice, is to get paid by the buyer. Therefore, what matters is the buyer’s credit score and financial history. The supplier is no longer in the debt equation.

Some SMEs, however, don’t like the idea of having a third party interacting with their customers. While most factors make the effort to conceal their involvement, there’s no guarantee that the screening and collection process won’t leave footprints.

What options remain for a supplier beyond lenders and factors?

Early payment 

Suppliers looking to avoid third-party interaction may find early payment to be an excellent alternative to loans and invoice factoring. With early payment, the supplier pays a discount in order to be paid early. This early payment can come directly from the supplier’s customer or from a partner institution that runs the programme.

Online platforms that facilitate early payment can expedite the process. Suppliers can upload all of their invoices and simply select which ones to discount. If the buyer or funder on the other side of the transaction accepts the terms, they will immediately release the funds, which will appear in the supplier’s account in as little as 48 hours.

The costs are straightforward with early payment. In some cases, the only expense for a supplier is the discount offered on the invoices. This cost can be significantly lower than other forms of alternative financing. 

Working capital through C2FO

As a global provider of working capital solutions, C2FO offers early payment that connects the accounts receivable and accounts payable of more than one million customers worldwide. C2FO also provides additional funding options that enable companies of all sizes to take greater control of their cash flow, either through accelerated payment from their customers or from a diverse network of innovative funding partners. 

To learn more about how C2FO can help your company from being overextended, visit www.C2FO.com/vendor