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.
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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
