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The Challenges of Offering Net Terms

By Rieva Lesonsky

net terms

Part 2 of a 7-part series on the Net Terms Economy


Last week we took a 30,000 foot view of the Net Terms Economy and saw how both buyers and sellers in the B2B world are facing tough challenges. Now, let’s come down to earth a bit, and look at the plights of sellers in this new economic reality.

First, a quick review. Fundbox, a leading fintech company, says one of the biggest challenges of the Net Terms Economy is it leaves $3.1 trillion in outstanding invoices on the table. This is an untenable situation, both for businesses and the national and global economy.

While this situation negatively affects all businesses, this can be particularly challenging for B2B companies. In this article, we’re going to look at the plight of sellers who, too often, have taken on the role of lending institutions, having to extend credit to buyers and the challenges they face as a result.

Why Sellers Act as Banks

Since a seller’s primary function in the business chain is to sell their wares, why are they even venturing into the business of loaning money? Mostly, they’re not doing it by choice. Rather, they got involved in the lending game so they can sell more products and increase their sales from buyers who wouldn’t ordinarily be able to afford the goods. As I explained in part one of this series, Are You Tired of Waiting to Get Paid?, trade credit, otherwise known as net terms, is how most businesses operate these days. Sellers offer buyers terms of 30, 60, 90 or more days, and then the sellers often wait months and months to get paid.

This can be especially hard on sellers. According to a survey conducted by PYMNTS and Fundbox, close to one-third of companies that offer trade credit say it hurts their cash flow making  their day-to-day operations more difficult. Nearly 30% (29.4% to be exact) say it “constrains their abilities to make capital expenditures, expand production (27.2%) and purchase inventory (26.6%).”

The process is also a time suck. It diverts their resources. Instead of focusing on running their businesses, sellers have to spend time evaluating the credit-worthiness of the buyers who need additional funds to purchase products. They take on the risk of a potential buyer default, something that their business was not intentionally designed to support. And then, more often than not, they have to spend even more time trying to chase down late payments. The study shows this is even harder on smaller companies that say offering trade credit prohibits them from being able to quickly purchase additional inventory because their money is tied up.  And, regardless of qualifying a buyer for net terms and the agreement to pay on time, at the end of the day, sellers are still hurt by offering net terms because it locks up their cash flow that could be used to accelerate growth.

Late Payments

Getting paid late can initiate a vicious cycle. Not only can this create an uncomfortable relationship between sellers and buyers, but a report from PYMNTS reveals 13.2% of buyers pay their suppli­ers late on average, while 27.5% of the businesses that frequently got paid late, were then late paying their own bills. This in turn affects a seller’s cash flow, as they start incurring fees for late or missed payments.

Even worse, when you’re unsure how much money you’ll actually receive from outstanding invoices, it frequently inhibits companies from making necessary monetary investments in their infrastructure, technology and more. The PYMNTS report notes, “Making business decisions and budgeting is trickier combined with cash flow constraints, especially when you’re not sure when the funds will be in the bank. This is where late payments start taking a severe toll on the success of your business.”

Ironically, the more generous the terms offered by sellers, the more likely they are to be paid late. The sellers offering payment terms between two and three months are paid late more than one-third of the time.

Even more startling, the PYMNT report reveals, “Com­panies that get paid late more than 75% of the time offer dis­counts of 5.7% on average, which is significantly higher than those offered by firms that are paid late only 10% of the time.” That’s leaving a lot of money on the table.

The worst-case scenario: 67.9% of the companies that receive more than 50% of their payments late experience frequent or routine cash-flow problems.

The larger the company, the deeper the damage: Almost 55% of companies with 500-plus buyers receive more than 25% of their payments late, while more than 72% of those with fewer than 35 clients receive over 75% of their payments on time.

But getting paid late is not the only challenge sellers living in the Net Terms Economy face. The whole process turns these businesses into financiers or “banks.” Now, in addition to doing their actual jobs, they need to dedicate time, personnel, and money into determining another company’s creditworthiness and moni­toring and enforcing their agreements.

How do they do that? The PYMNTS report shows: 26% rely on third-party credit reports to determine whether to extend credit to busi­ness partners, 13.5% consider time in business, 13.2% look at individual references, 11.8% do informal web and social media searches and 11.1% take personal relationships into consideration. That doesn’t sound like a reliable solution.  And given how often buyers are paying late, it’s obviously not.

Compounding the problem, according to the report, sellers try to incentivize buyers to pay up by offering enticements, such as extended terms and early payment dis­counts (those paid late more than 75% of the time offer average dis­counts of 5.7%), but instead of alleviating the problems, these prac­tices often perpetuate them.

This just increases the financial burden on sellers that may already be cash-strapped and facing cash flow issues. PYMNTS research indicates the average amounts to 4% of annual revenues. This translates to $317,000 a year for a firm taking in $11 million annually. Thus, businesses with lim­ited options fall into the late payments trap and struggle to dig themselves out.

How is this sustainable? The obvious answer is—it’s not.

There are solutions out there—the obvious one is to get paid quicker. As we continue this series, we’ll explore those solutions—we’ll look at immediate payment platforms, through which invoices are paid by third parties and fees are incurred if balances are revolved after 30 days. These platforms would help both establish and emerging businesses. They would free up time, money and other resources better put to other use.

Next up: we’ll look at the challenges faced by buyers living in a Net Terms Economy.

In partnership with Fundbox 

 Shutterstock photo of files by Olivier Le Moal

Are You Tired of Waiting to Get Paid?

By Rieva Lesonsky


Obviously, all businesses want to get paid quickly, but that’s not the world we’re living in. Instead, welcome to the Net Terms Economy.

Part 1 of a 7-part series on the Net Terms Economy

It may not be the place most business owners want to live—but these days we have little choice. We’re living in a “buy now, pay later” environment, which can negatively impact your business, your industry, and the nation’s economy.

What is the Net Terms Economy?

The Net Terms Economy consists of businesses like yours and mine waiting—and waiting—to get paid for products we’ve already sold or work we’ve already completed. My friends at Fundbox say there’s a “massive $3.1 trillion” in outstanding invoices “held in suspended animation” while business owners are scrambling to pay their bills—and their employees.

B2B businesses are particularly impacted by the Net Terms Economy. Things are more clear cut in the B2C world—a consumer buys something using cash, or a credit/debit card and the retailer gets paid quickly in exchange for a small service fee.

In the B2B world, it’s not quite that simple. Trade credit—aka net terms—is the law of the land. With net terms of 30 (getting rarer these days), 60, 90 or more days, sellers typically wait months to get paid. And buyers, who need to purchase inventory, supplies or raw materials to operate their businesses constantly have to prove their credit-worthiness to sellers. Often, these buyers are stuck—forced into accepting non-negotiable payment terms.

How Did We Get Here?

These circumstances serve no one well—as Fundbox puts it, “Both sellers and buyers often wind up cash-starved and growth-challenged, with funds hanging in accounts receivable limbo.” In other words, both sides in the B2B transaction can easily wind up with cash flow problems—and nothing will shut a business down faster than that.

And this—buyers requesting net terms from sellers, who are then forced into the risk assessment business (which is labor-intensive, taking time away from more productive tasks) and still end up waiting to get paid—created, according to PYMNTS, the Net Terms Economy.

The slow, inefficient process doesn’t end there. What if, after the time-consuming task of assessing buyers, sellers determine the risk is too high and deny them terms? Or the seller doesn’t correctly assess the risk of loaning to the buyer, and the buyer doesn’t pay? Lastly, what if the terms offered are too onerous for the buyer to accept?

A lot of the risk goes undiagnosed—affecting buyers and sellers. Buyers can’t grow because they can’t get goods to sell and sellers can’t grow because so much of their capital is tied up in receivables. You end up with both buyers and sellers having wasted valuable time, opportunities and resources.

The SMB Receivables Gap

PYMNTS and Fundbox conducted an extensive study of the Net Terms Economy—and the reasons that caused it, labeling the problem the SMB Receivables Gap. The research showed all firms, regard­less of time in business or profitability, faced challenges negotiating the Net Terms Economy. But startups, other early-stage businesses and those with thin profit mar­gins were particularly affected.

More established companies were better able to navigate the Net Terms Economy using credit cards or lines of credit. Ironically, however, the research also showed high-margin businesses (defined as being in business 11 or more years, with margins between 25%-75%) were actually more likely to be paid late, because they tend to extend more generous payment terms, leading to longer AP terms for these businesses—on average 40.3 days, compared to 25.6 days for early-stage, low-margin companies.

Why Does the Net Terms Economy Still Exist?

In addition to the time and complexity of operating a credit program, businesses that extend credit also face the risk of customers paying late or not at all and having too much money locked up in accounts receivable.

If extending terms is so wasteful, why do businesses do it? Over half (54.8%) of high-margin firms say extending credit helps them attract new customers. And the lure of the status quo—the concept of, “but we’ve always done it this way” is powerful.

The SMB Receivables Gap underscores the challenges businesses face today and the desperate need for solutions. The good news is these solutions exist in the form of immediate payment platforms (where invoices are paid by third parties). The report says, “Such plat­forms would help create a more level playing field between established firms and the younger businesses still gaining their footing. [And] they would help companies avoid the risks involved in ex­tending credit so they can instead focus on their core business operations.” They would help business owners more knowledgeably be able to predict cash flow.

The biggest benefit? Imagine how better off we, the small business owners and the backbone of Main Street, would be if $3.1 trillion were unleashed into our economy.

Chances are, if you’re a B2B, you’re caught in this vicious cycle. We want to help. Over the course of the next two months, we’ll be looking at the specific challenges of living in the Net Terms Economy and then offer  recommendations and real solutions for how business sellers can use net terms and faster payments to increase their average order volumes (AOV) while business buyers can leverage new net terms offerings to order to gain faster access to credit and more flexible payment terms. When we’re done, hopefully you’ll not only know how to better navigate your way through the Net Terms Economy, but your business will be in a better position to ensure future success.

In partnership with Fundbox.

Payment terms image from Shutterstock by Constantin Stanciu