Why Coupa?Watch Now
Coupa is a company of talkers, passionate about sharing tips, tricks and advice for improving finance and procurement and saving companies of all sizes time and money. But we’re not the only people with opinions and ideas. We’d love to hear from you so join the conversation!
- February 26, 2016
- Donna Wilczek
- Finance & AP
As economic conditions become more challenging, all eyes turn to treasury to better optimize cash. Chances are your suppliers are starting to feel the pinch too. Supply chain financing in the form of early payments in return for invoice discounts can be a valuable tool in treasury’s cash management toolkit, helping you maximize cash on hand while helping ensure that your suppliers stay liquid. New technology is making it faster and easier than ever before for your company to implement and achieve value with invoice discounting programs.
At any given time, some part of your supply chain will experience liquidity issues. These suppliers will welcome the opportunity to get paid faster. They can meet their short-term obligations and possibly avoid borrowing for working capital--if that’s even a possibility. This is fast financing with no negative impact on their credit rating. They’re giving you a discount, and they’re getting value in return.
For treasury, the return on early payment discounts can be astronomical. Pursuing them may provide a greater return than the traditional treasury objective of increasing Days Payables Outstanding, yet early payment discounting is seldom considered a viable cash management tool because past failures have given these programs a bad name.
These programs haven’t failed because suppliers aren’t willing to discount their invoices in exchange for accelerated payment. Many are. It’s because these offers are going to the wrong suppliers. It’s actually a failure of technology and supplier enablement. For your program to have a meaningful impact for you and your suppliers, you need widespread supplier adoption and the ability to process invoices quickly.
Two paths to value
Early payment discounts, sometimes called dynamic discounts, are discounts that change depending on how fast the supplier gets paid. They’re generally offered to suppliers in two ways: They’re either included in the terms pre-negotiated by procurement as part of the contract with the supplier, or they’re proactively extended by accounts payable at the time the supplier logs in to submit their invoice electronically.
For example, procurement may have negotiated contract terms of 1%/30 net 60. But, AP can push these suppliers alternate offers, such as 2%/10 net 60. They can also push discount offers to suppliers that don’t have early pay discount pre-negotiated contractual terms (e.g. Net 45).
Considering the incremental cost of capital and cash opportunity costs, Treasury needs to evaluate whether using cash to capture early pay discounts is the best use of cash at any given point in time. Procurement and finance then need to collaborate on designing early payment discount offers, and AP needs to configure them in the electronic invoicing system. It’s not too hard to do, but many companies don’t think it’s worth the effort because so few suppliers accept discounts offered at the time of invoicing.
That’s because most suppliers that participate in e-invoicing programs are usually the top 10-20 percent of suppliers who don’t have cash flow constraints. The Dells and Staples’s and Microsoft’s of the world see no value in giving up a discount in return for getting paid faster. An early payment discount program directed at only the big players probably won’t have many takers and won’t do much to help you optimize cash.
Invoice discounting is far more compelling for smaller suppliers who are more likely to have occasional short-term cash flow issues and are looking to improve the speed and efficiency of their collections and decrease their Days Sales Outstanding. But, your invoice discount offers are likely never reaching these smaller suppliers because they’re not participating in your e-invoicing program. This supplier adoption problem leaves big money on the table.
Casting a wider net
To achieve the greatest success, your invoice discounting program has to be able to reach small suppliers. Of the hundreds of millions of suppliers in the world, 90 percent are small and medium-sized businesses with 500 or fewer employees—and for most companies, these small suppliers make up around 80 percent of their supply chain. It stands to reason that at any given time, some of them probably have liquidity issues such that they’ll be highly motivated to accept an accelerated payment discount offer—if only they knew about it. But only a fraction of them participate in e-invoicing. Ironically, these are the very suppliers that are usually ignored because the effort to enable them for electronic invoicing is considered to be greater than the benefit.
You can’t run this kind of program with manual, paper-based processing. You have no way of knowing or predicting which suppliers might be having cash flow issues. They probably aren’t going to come to you and it’s not feasible for AP to reach out to them all. And time is of the essence. If they’re sending you paper invoices, by the time their paper invoice gets to your desk, you've already lost a week. Faster payment discount offers have a very short shelf life.
The only way to make this program work is to cast a wider net, so your discount offer can reach the suppliers that need it most. That means making your electronic system accessible to as many suppliers as possible, not just the large suppliers willing to go through an enablement process to join an invoicing network.
A Catch-22 for suppliers
AP simply doesn’t have time to spend on enablement campaigns for all these small suppliers, and it’s a hard sell anyway. These suppliers don’t do the kind of volume that makes that effort scalable. Asking them to incur labor costs and maybe even pay a fee to join and use an invoicing network hurts their cash flow, and cash flow is the very reason why they’d be willing to give you a discount in the first place. It’s a Catch-22.
You have to give them alternate ways to invoice you electronically, such as invoicing portals that they can use for free, or even better, the ability to take an emailed purchase order and convert it to an e-invoice through a smart email without even having to register. Only a small fraction of the world’s 200+ million suppliers participate in invoicing supplier networks, but everyone uses email.
The conventional wisdom is that supplier enablement is an 80/20/80 proposition—80 percent of the benefit is going to come from enabling the 20 percent of suppliers who account for 80 percent of your spending. It’s long been thought to be too laborious to enable the remaining 80 percent of suppliers, but new technology allows suppliers to participate with minimum to no enablement effort.
Treasury must look at every avenue to optimize cash, and that means thinking differently about technology and supplier participation. If your e-invoicing system only works with your largest suppliers, you’re missing the chance to optimize your own cash flow while also helping suppliers with cash flow difficulties the help to meet their short-term obligations.
By using new technology to increase e-invoicing participation, you have the ability to extend discount offers to enough suppliers that a meaningful number of the right suppliers will see them and take them, creating a win for everyone.