Managing credit payment in businesses-IFE ADEDAPO

Despite the high risk involved in selling products or rendering services on credit, small businesses often engage in this practice. Experts note that in a highly competitive market, Small and Medium Enterprises are left with no option than to extend credit transactions to some of their trusted customers.

Although some experienced business people who have been adversely affected by deferred payment advise against engaging in it, business consultants note that it is a survival strategy.

Moreover, those who have had a good experience in the area profess that their businesses had grown because customers paid as and when due.

ADVERTISEMENT

However, many faced with problems in the collection of the debts that have gone bad have difficulty accessing funds from other sources to support their ventures pending when they would get paid.

A report by ACCA notes that late payment is a fact of life for the most formal businesses globally, a sign of distress from the weakest businesses as well as a privilege exercised by the most powerful ones.

Examining it from a macroeconomic perspective, the report titled, ‘Ending late payment: Taking stock,’ says it is both inefficient and potentially destabilising.

The report observes that trade credit is a more important source of short-term funding for SMEs than bank lending, and its importance is growing as businesses become smaller, more services-oriented and less formal.

The report adds that professional accountants play a crucial role around the world by ensuring prompt payment, making sure businesses are protected from customer defaults and can cope with interrupted cash flows.

When is payment late?

The report notes that not all credit sales are settled promptly – but those that are not cannot be easily grouped together.

The ACCA report says, “It is easy to understand the term ‘prompt payment’ as payment at a time and in a manner that broadly fits both the supplier’s and the customer’s preferences and expectations. Its opposite, however, is much harder to define; there are many ways of paying ‘late’.”

Why businesses pay their suppliers late?

The report notes that much emphasis by the press is laid on late payment as a corporate anti-social behaviour in which cash-rich corporate organisations or dishonest traders take advantage of small firms without the administrative capacity to oppose them.

However, the report says that late payment is ‘a feature, not a bug’ of the trade credit market; in at least half of all instances it does not involve long terms of credit and only rarely does it involve customers at risk of failure.

Atradius (2014) estimates that at least 30 per cent of all credit-based sales in developed and emerging markets are paid outside of the agreed terms, yet in each region only between 16 per cent and 21 per cent are paid more than 60 days after the invoice date, which were the maximum allowed terms of credit in the European Union without an explicit agreement.

Impact of late payments

Even when it is not accompanied by default risk, late payment costs suppliers in multiple ways and if unchecked can eventually cause death of a business.

As highlighted by the report, there are higher costs associated with the financing of working capital, forgone interest on cash reserves, high administrative costs associated with collections and recoveries, work passed up and substantial distraction for business staff and, often, owner-managers.

It adds that the costs are often enough to turn paper profits into real losses even for businesses with healthy customers and uninterrupted access to finance.

They can create a perverse system whereby small firms, which are typically less creditworthy and efficient, are tasked with the financing and administration of the supply chain, it says.

ACCA survey notes, “Uninterrupted access to finance, of course, is the exception, not the rule, in business. ACCA’s research suggests that emergency funding can take as long as six months to arrange in developing countries, in the meantime exposing suppliers paid late to serious risks unless directors are willing and able to make up the cash shortfall.

“For many small suppliers unable to finance their working capital quickly, late payment can be a death sentence; and from a macroeconomic perspective economies pay the price through increased barriers to entry, and thus reduced competition in sectors where late payment is rife.

Moreover, the report says that persistent late payment can depress business investment, especially in times of economic recovery – in turn reducing productivity, real wages, and overall growth.

ACCA suggests that the government can regulate the late payment issues through interventions in the trade credit market by using the following models.

Engage tax authorities and financial services firms

Dampen the systemic impact of late payment on the economy, by encouraging financial services firms or tax authorities with a stake in the entire supply chain to take an active role in giving business advisory services.

Incorporate late payments clauses in legal frameworks

Ensure that the legal and policy frameworks for incorporation, financing, contracts and insolvency are aligned to deal with different aspects of late payment promptly and in a consistent manner.

Negotiate credit terms

Ensure that businesses can look forward to a similar level of discretion in negotiating credit terms with their customers regardless of whether they are new or repeat suppliers

Provide alternative financing options

Encourage the development of financial markets so that businesses have quick access to alternative financing options in response to changing terms of credit or unexpected late payment.

source-ThePunch