The Benefits of Leveraging Extended Payment Terms

Regardless of the size of your company, a perpetual, yet extremely important responsibility for any chief financial officer is managing your company’s cash flow. While the importance of this task is quite clear, a good number of CFOs still struggle with it.

With this baseline in mind, cash flow management is especially critical if your company’s accounts receivable are quickly growing. Even though your business may be on a promising track, the cash-poor nature of the business can hinder your growth, pause potential investments, and risk delayed payments for your payables. It can seriously jeopardize the health of your company.

Ultimately, we want to use this article to further explore some of the benefits of leveraging extended payment terms. While it may seem obvious on the surface, taking the time to analyze these benefits in detail will help you determine when to best seek extended payment terms with your business’s suppliers.

The Benefits of Extending Payment Terms

To start, one of the most significant benefits of extending payment terms is that you can free up more of your working capital. In fact, this is the most obvious (and often most valuable) benefit of extending your payment terms. By giving your business more time to pay off your suppliers and other creditors, you are able to allocate that particular capital toward other purposes, whether that is paying off a larger supplier with more strict payment terms or using that cash for other expenses.

By being able to extend payment terms with your suppliers while keeping the same payment terms for your receivables, you can unlock a significant source of cash. As just one example, according to the New York Times, Procter & Gamble was able to add an estimated $1 billion of cash flow by introducing a 75-day payment period for suppliers. Your company doesn’t need to be the size of Procter & Gamble to see the financial benefits of extending your payment terms. Working with your suppliers to extend payment terms can lead to an injection of cash for your business, whether or not it desperately needs the cash.

When seeking to extend payment terms, however, your organization will likely encounter pushback from your suppliers. After all, your suppliers need to pay their bills, too. Extending your payment terms may put your suppliers themselves into a financial dilemma.

That said, it isn’t all bad news for suppliers. One great example comes from the corporate juggernaut Unilever. About nine years ago, Unilever extended its payment terms from 30 days to 90 days. Within three years of making that change, Unilever increased its total turnover by 25 percent, operating profit by 50 percent, and investments in fixed assets by 60 percent. With that cash, Unilever further invested in its supply chain, passing on efficiencies to its suppliers in the form of higher volume orders. In other words, it created mutual value for both Unilever and its suppliers.

Freeing up more of your working capital is a key benefit of extending your payment terms. But beyond that, extending your payment terms can force you to answer some key questions about your business. This is a natural result of freeing up more of your working capital.

The simple reality is that all businesses are resource-constrained. As decision-makers in our company’s finance department, we take stock of our company’s current and future cash position, ensuring that our company can pay its bills and invest in future growth. Even though there are projects or initiatives that C suite members are desperate to make, resource constraints prevent some of those projects from going forward.

But having said that, when a company extends its payment terms with suppliers and unlocks more available cash, it’s confronted with a catalyst that can be either positive or negative. It requires the company to tread carefully and allocate the capital in the most prudent way possible. It’s a task that can’t be taken lightly, as there is a real chance that they use that capital in a way that destroys value.

Therefore, when this new capital becomes available, it is critical for companies to gather their decision-makers and take a long, hard look at your business. Where can the capital be best allocated? Is there a specific project that has a good chance of creating value that hasn’t yet been implemented? It also helps to invert the line of thinking here. Realistically, how could free cash be invested in a way that would destroy the most value? What would be one of the more appealing, yet worst decisions that can be made with this cash?

Asking yourself these types of questions will help clarify your thinking and will help you and your team best allocate your liberated cash. Importantly, asking these types of questions shouldn’t just be lip service. It shouldn’t be a way to cover yourself in the event that you misallocate your capital. Rather, it is a key opportunity for you and your colleagues to settle on how you can use this capital to accomplish your business goals.

Finally, obtaining extended payment terms from your suppliers can motivate your colleagues. This new source of capital can be just the thing that your company needs to get your company out of a funk.

However you choose to allocate your freed up working capital, you can use it as a positive catalyst for your organization. This is true not only in the finance department, but throughout the company. There is something to be said about a new project or new initiative unlocking enthusiasm and drive within your team. It galvanizes creativity within your team and makes your colleagues want to come into the office rather than watching the clock in the afternoon.

Granted, the above discussion stands. You don’t want to extend payment terms just for the sake of leveraging these residual benefits. But having said that, this motivational effect from freeing up working capital can be extremely powerful. It’s certainly something not to be ignored if you opt to extend your payment terms with suppliers.

Taking Advantage of These Benefits

Being able to extend your payment terms can unlock a significant amount of value within your organization. The benefits above are just a selection of the potential opportunities that come from this practice. While you may not want to necessarily try extending your payment terms with all of your suppliers or creditors, this can be a terrific tactic if used strategically.

When extending your payment terms with suppliers, we also encourage you to reap those benefits with accounts payable as a service solutions. For example, at Finexio, we help customers leverage tried and true best practices to executing on an extended payment terms strategy. Working with us, you can be confident that you are getting the most value by selecting this strategy which on average can increase electronic payment adoption amongst suppliers by 30%. To learn more about how we can help you, don’t hesitate to visit our website.

For more information, you can reach the Finexio team at marketing@finexio.com or you can contact us here.