Department of Commerce: The economic benefits of paying early

January 2, 2015 Procurement Peter

department-of-commerce-the-economic-benefits-of-paying-early

According to a recent Department of Commerce report, companies – especially large ones - are taking longer and longer to pay their small suppliers.

That might seem like a smart strategy for ensuring positive cash flow, but it could have unintended consequences that affect long-term financial health for both the buyers, and their suppliers.

The report, The Economic Benefits of Reducing Supplier Working Capital Costs, analyzes the impact of extended payment terms and concludes it’s really in large firms’ self-interest to pay quickly.

Lengthy payment schedules can lead to:

  1. Higher prices

  2. Lower quality goods or services

  3. Missed delivery dates

  4. Potentially damaging supply chain disruptions

By contrast, accelerated payment through mechanisms such as Dynamic Discounting, can bring significant business advantages that go well beyond reduced prices for goods or services.

Early payment terms = stronger supply chain  

It all comes down to the cost of working capital and its impact on a supplier’s ability to meet the buyers’ needs. Extended payment terms put a financial strain on suppliers, many of whom are small businesses with higher borrowing costs than large firms.

If money is tied up in accounts receivable, suppliers without sufficient working capital are in a quandary, facing tough decisions:

  • Should they build financing costs into their prices (if loans aren’t available) and risk losing business?

  • Should they cut production or workforce costs and risk lowering quality?

  • Should they maintain the status quo and risk going bankrupt?

Obviously, not good options – for the supplier or the buyer.

Paying your suppliers faster puts them on sounder financial footing and unlocks capital for innovation, business expansion, and investing in workers. All of which translates to increased productivity, quality, and stability – and a healthy supply chain.

Stronger supply chain = greater shareholder value

While the operational benefits of a strong supply chain can be tough to measure by Wall Street standards, disruptions to the supply chain are indisputably damaging. When suppliers can’t meet demand, companies might be able to pick up the slack elsewhere, perhaps at higher prices. If they can’t get needed goods or services, the drop in productivity inevitably leads to lower revenues. Investors might lose confidence, and capital costs could increase.

The DOC cites several studies to support its claims, including one which found that companies experiencing supply chain disruption reported 33%-40% lower stock valuations relative to their peers and more share price volatility in the aftermath. The worst part? A full recovery took two or more years.

A separate study found a correlation between higher shareholder returns and shorter payment schedules in 17 of the 20 largest manufacturing industries.

Dynamic Discounting: A win-win for suppliers and buyers

The DOC report does more than identify the problem. It looks at practical solutions, including Dynamic Discounting. This flexible, automated approach to making early payments in exchange for a discount simply saves buyers money. And at the same time, suppliers get cash in hand more quickly and easily, all through a supplier self-services portal. No banks involved--just a straightforward agreement between the buyer and supplier.

To learn more about how automating and maximizing supplier discounts can help you increase profitability, download the latest research from PayStream Advisors’ AP & Working Capital Report: Increasing Revenues From Early Payments.

 
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