In a similar manner, procurement groups can benefit from "float" in managing their payments to suppliers.  This article will discuss four lessons which organizations can learn about optimizing the "time value" of supplier payments:

Lesson #1.  Payment Term Discounts are Nearly Always Worth Taking- A client's Controller issued an edict for their procurement and accounts payables groups ONLY to set suppliers up with Net 30 or Net 45 day payment terms, even if their suppliers offered a discount for faster payments (for example, "2% 10 - Net 30).  Their Controller was quoted as saying, "We get a much better annual return on money than a 2% discount - so management is going to invest that money rather than giving it away." 

Here's the problem with this Controller's statement.  The 2% isn't an annual figure.  It's based upon moving the payment timing from 30 days to 10 days...just a 20 day acceleration.  When the effect is annualized, a 2% 10 day payment term discount equates to a 22% net difference.

So when our consulting team met with the firm's finance group, I asked their Controller "If I could tell you the name of a stock which is guaranteed to increase in value by 2% every 20 days, would you want to buy shares?" They said, "Of course".  So I explained the math, and the Controller changed his company's approach to accepting discounted payment terms...

Lesson #2.  Paid Suppliers are Happy Suppliers - If you'll go back in time with me, try to remember your college psychology or organizational behavior class, where you were taught about Abraham Maslow's Hierarchy of Needs.  Simply summarized, Maslow theorized that human beings will not become motivated performers if their foundational "Safety" or "Security" needs are unmet. 

So guess what is the primary "Security" level of need fulfillment in a buyer/supplier business relationship?  Yes, it's being paid in a timely manner for their provision of products or performing services.  You can't expect superior performance from a supplier whose payments are overdue.

On-time payments are a huge factor in today's Business-to-Business (B2B) interactions.  In a controversial manner, some large businesses are pushing payment of their suppliers out even longer than ever before.  The British Telegraph newspaper has recently published articles about three leading global corporations which are extending their standard payment terms from 60 out to 90 days.  The article was so controversial that the British government is now performing a formal study about the effects of unfair corporate payment terms upon the business community. 

A Wall Street Journal article (2012) reported that 64% of 850 small businesses surveyed by the National Federation of Independent Business (NFID) had invoices which went unpaid for at least 60 days (beyond terms) and 20% of those businesses said delinquencies were getting worse.  Another study performed by the Kauffman Foundation found that, "Of nearly 5,000 small businesses, 14% cited late payments as their biggest business challenge..."

These trends do not necessarily represent all firm's manner of paying their suppliers.  For example, Wal-Mart is considered to be one of the largest non-governmental buying organizations in the world.  The firm is certainly known for being highly-aggressive in negotiation of prices and management of their suppliers.  Yet a quoted study found that, on average, Wal-Mart pays its suppliers in 29.5 days.  Perhaps Wal-Mart's management understands the value of managing "float".

So what do these factors mean to us in the procurement profession?  The earlier-mentioned 2012 Wall Street Journal article quotes one business owner, who said, "There are absolute limits to how long companies can push their payables.  At some point, vendors push back through open negotiation or higher prices."  Those are words to which every procurement professional should take note! 

Lesson #3. Salespeople Don't Make Payment Term Decisions- It is usually a supplier company's finance organization which makes decisions about whether to offer its customers discounted payment terms. Those decisions are often based upon the company's liquidity as well as up front expenses incurred in their business model. 

Certain industries are more likely to offer/accept payment term discounts.  For example, payment discounts are often accepted by professional services firms because they incur labor and travel expenses up front.  Small manufacturing firms with a high raw materials cost will often respond well to requests for discounted payment terms (for example, printing firms have to buy paper up front that can represent 60% of their total product price). 

In fact, many sales organizations which are commission-based actually pay the salespeople percentage commissions based on the full billing amount (payment discounts are not deducted from the employee's compensation formula). 

Despite the foregoing, a relatively low portion of supplier organizations will pro-actively offer discounted payment terms.   But when asked, around 11% of typical supplier companies will agree to discounts in exchange for faster customer payments.  If an organization has 1,000 suppliers, that's around 110 companies which may accept discounted terms!

The trick is to getting discounted payment terms is to ask.  There's an old expression which my colleagues and I apply when teaching negotiation workshops... "If you don't ask you don't get".  The long range strategy is to ask suppliers about payment term discounts in each RFx package you send out.  But it takes a long time to wait for every contract to expire if that is your only way of asking.  Strategic Procurement Solutions has a proprietary way of asking every one of an organization's suppliers which can identify savings that are just sitting there right now.   As hockey star Wayne Gretzky once said, "You miss 100% of every shot you never take."

Lesson 4.  To Get Benefits from Discounted Payment Terms You Must First Take Them. Finally, having discounted payment terms in a contract or purchase order doesn't do any good unless Accounts Payable (AP) captures the discount.  So AP staff has to be instructed to take term discounts and pay on time.  And even if AP is instructed to take payment discounts, they can't do that if their internal customers haven't entered receiving entries or approved invoices for payment in a timely manner.  So if we want payment term discounts to be taken, procurement professionals must pro-actively work with both AP and internal operations to make sure they are processing discounted invoices quickly.