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Avoiding insolvency – is creativity in payment terms the answer?

The pandemic has resulted in tough trading conditions and has placed significant pressure on cashflow. To provide a lifeline for many businesses, a more creative approach to payment terms and commercial partnerships is needed. But how can owner managers use these ideas and how can they bring creditors on board with this new way of thinking?

Customer and supplier relationships

Many SMEs have seen the need to rethink traditional customer-supplier relationships, especially with the impact of the COVID-19 pandemic still prevalent and creating significant financial strain. Owner managers now need to think about how they can help protect the viability of their supply partners, rather than solely focusing on their own business performance. To strengthen a valuable, ongoing commercial relationship, offering more flexible payment terms is key. Owner managers who are not able to protect their key suppliers may find it difficult if they are suddenly required to source alternative supplies and as a result may be pushed out of the market.

The importance of sharing information

In order for this new approach to payment terms to be a success, there needs to be a reliance on businesses sharing cash position information and clarity around meeting payment deadlines. Although, organisations who have successfully retained a healthy cashflow during COVID-19 should have the ability to meet creditors deadlines, they may need to consider the pros and cons of implementing payment terms that are more flexible as this will likely have an effect on their own cashflow.

Finding solutions

To ensure that introducing more flexible payment terms is feasible for the business, owner managers need to think carefully about the potential implications of such changes on their cash position. Following this, they must take steps to manage these impacts by finding solutions to bridge any cashflow gaps.

For example, when extending 30-day payment terms to 45 days, owner managers would need to use their creativity to consider alternative ways to protect working capital through this period until payment is received. This could involve exploring innovative ways of working with existing customers. Invoice financing, which enables businesses to borrow money against their debtors ledger, could provide another means of injecting cash into the business in the short term.

The wave of insolvencies experienced across the casual dining and retail sectors, even before the pandemic, is evidence that traditional payment models are no longer sufficient and that a more collaborative approach between commercial property landlords and businesses is urgently needed. The growing popularity of the turnover rent model in the retail sector, which involves calculating rent based on an individual store’s financial performance, is one example of a creative partnership, that could work for both parties.

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Effective communication is key when encouraging suppliers to have more flexibility within their commercial contracts. Suppliers are more likely to agree to a new payment approach when there is consistent and open dialogue with commercial partners, strengthening trust.

Cashflow forecasting can provide creditors with increased confidence surrounding payment deadlines and can assist in the ease of negotiations. Three-way forecasting helps to improve the visibility of costs across the business, this involves combining profit and loss accounts, cashflow and balance sheets. For example, a three-way forecasting model can create forecasts based on a variety of payment terms, facilitating decision making by sharing information with creditors.

It’s worth bearing in mind that many SME businesses have evolved during a period of economic certainty, so a widespread switch to more flexible commercial arrangements is unlikely to happen immediately. Although, those that can make creative payment terms work, without compromising cashflow unduly, could strengthen their commercial partnerships, improve their sustainability and help to boost the UK’s economic recovery.

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Posted in Blog, Business Services, Healthcare, Hospitality & leisure, Manufacturing, Not-for-profit, Property & construction, Retail, Technology, Transport & logistics