Friday Rant: Payment Matters

I know of some large corporations that are pushing out their payment terms from 30 days to 60 days. They're trying to squeeze out working capital in order to get a little more profit. If their cost of capital is 8% and they wait another 30 days to pay a supplier a million dollars, they're theoretically saving 8% x $1MM x 1/12 = $6,667 in capital costs. However, this is penny wise and pound foolish. They could very well be increasing their supply risk, not to mention hurting goodwill, because many suppliers are facing liquidity issues in this economic downturn. Furthermore, suppliers I talk with say they figure out ways to increase their charges on future projects to compensate for any borrowing costs they may incur.

Yogi Berra has taught us that it's tough to make predictions, especially about the future... but I'm going to paint a scenario of how the economy could rebound in the next couple of years, and relate it to another reason it's important to pay quickly.

Many who have lost their jobs will not be able to find jobs in large companies. Some of those people, who have harbored business ideas for a while, are using their severances and savings to start new businesses. Those who survive and thrive will create new jobs, which will drive consumer spending again, benefiting large companies too. Quick payment will help new suppliers' liquidity and hence survival rate. And, for new and existing suppliers alike, quick payment stimulates the economy by speeding the flow of money.

Some third parties have taken a step in the right direction of quicker payment. They offer software-based services wherein suppliers who have payment terms of say 30 days, can choose to be paid more quickly, but accept less money as payment in full. So, if a supplier is to be paid $100K in 30 days, they can accept a payment in full of perhaps $97K and get it immediately. Such companies I'm aware of that offer these "supply chain finance solutions" include, Orbian, PrimeRevenue, JPMorgan-Xign, and HSBC. Even if the payment discounts are a bit pricey for suppliers, they at least give them accounts receivable cash-flow flexibility.

If these arguments aren't enough, think about when you've done some work for somebody. You want to be paid as soon as possible, right? Don't you feel that that money is rightfully yours? Historically, it took time to process payments manually and hence the tradition of 30 days payment terms. However, for some time now, payments can usually be made instantly. So, morally and pragmatically, all parties should be moving toward instant payment upon successful completion, with minimal discount.

Jason Magidson

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