Do your suppliers offer early payment discounts?
These days interest rates are low but not everyone has an easy time getting qualified to borrow. However, it is easy to overlook great returns from early payment discounts.
The math to compute the effective interest rate on early payment discounts isn’t always intuitive. If you can receive a 1% cash discount by paying in 10 days or no discount if you pay in 30 days, you can get a 1% return on your money in 20 days. Annualized that 1% discount is an 18.25% return. (365 days/20 days *1% = 18.25%.) If the discount is 2%, double the annual rate to 36.5%. While the stock market has been good lately, the idea of a sure 18% or 36% return is appealing.
But be careful. Make sure the supplier’s invoices are properly approved and pricing is accurate. This may mean a review of your invoice approval processes to streamline payment. Mail time may also need to be figured into the equation, both the supplier’s time to get you an invoice and your time to mail them a check. Electronic bill payment can help as well as electronic invoicing on the supplier’s side.
If you are struggling to meet the time-line and capture the discount, talk to the supplier. They might be willing to offer you a smaller discount and a longer term. Say a 0.5% discount for payment in 20 days. That is still a 9% return.
In addition, make sure you don’t strain your working capital line to capture small discounts. Even though the rates to pass on discounts are high, you don’t want to run into cash flow shortfalls. A B2B CFO can help you forecast your cash needs and determine if cash discounts are worth pursuing.
Some of you may be thinking of this point from the issuance of credit. The math is the same on either side of the transaction. The 18% return available to a customer for early payment is an 18% charge for prompt payment to the seller.
B2B CFO® has over 200 experienced chief financial officers who stand ready to help businesses improve their cash management processes.