Magazine article Business Credit

The Future of Trade Credit

Magazine article Business Credit

The Future of Trade Credit

Article excerpt

There was a time when all it took was a handshake. This simple gesture alone conveyed trust and formalized a business transaction. Without any words, the handshake sanctioned, regardless of circumstance, that the business partners would honor the merits of their agreements.

In modern times business leaders are tightening their grips--struggling to hang on to their customers and accounts receivable. Today, trade credit, the credit offered by suppliers to their customers in business-to-business transactions, symbolizes trust for many business partners. But in some cases that trust has been violated, according to a recent Atradius survey regarding the future of trade credit.

From the survey interviews with business and trade leaders across the globe, a worrying trend emerged: a large number of buyers are delaying payment beyond due dates as a cash-flow strategy. In return, suppliers who had once struck deals with the shake of a hand now fear they'll be left empty-handed and are imposing harsh payment terms.

With buyers demanding (or forcing) extended credit periods from hard-pressed suppliers, and suppliers stipulating advance payment from long-time customers, the question remains, how much trust, or credit, should business partners extend as we emerge from the Great Recession? What does the future hold for trade credit?

Extending Credit or Financing Business

When it comes to effectively extending trade credit, companies must leverage this tool to protect their customers and accounts receivable. Long-term, stranglehold strategies, where credit terms are dictated by fear rather than trust, can bankrupt buyers and sellers and destroy the benefits we've come to reap from trade credit. The core issue at the center of this tug-of-war is cash flow. Trust aside, trade credit creates a rhythm to each transaction. It offers reassurance of payment by a specified date, from which cash flow can be properly managed.

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Recently, the European Commission announced that late payment is the cause of one in four bankruptcies and is attributed to an estimated 450,000 lost jobs each year. The Commission confirmed that small businesses are often the most vulnerable because of their dependence on timely receipts to maintain cash flows.

Atradius survey respondents agreed that more stringent payment terms may offer short-term cash-flow benefits, but at the risk of long-term client relationships as the terms remind the trading partner they are under threat of dismissal. In fact, the most popular response given to the survey question regarding trade credit's purpose was to develop and maintain trust in business relationships, followed by allowing customers more time to pay. The response validates businesses' growing concern of retaining quality customers during this turbulent economic time. Considering recent estimates that found earning new customers can cost six to eight times more than the cost expensed to keeping existing clients, these business leaders understand that it's rewarding to give credit where (and when) credit is due.

A large number of survey participants also predicted the use of trade credit will increase in the coming months. This increase, they said, would be leveraged to regenerate waning markets and rebuild trust with legitimate customers who need more time to pay. Respondents expect the need for extended pay periods will increase based on current customers' cash-flow position and financial institutions inability, or unwillingness, to ease lending restrictions.

As a customer's financial stability changed, the survey found business leaders would rethink the extent of credit offered. Some participants acknowledged that changes in their own cash flow would also cause them to reexamine credit terms. Such responses are indicative of suppliers' awareness of the connection between cash flow and survival.

When it comes to negotiating better prices, survey answers offered a tolerant tone. …

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