Discounting, SCF, and Working Capital

Efficient accounts payable operations can help lower the cost of processing invoices, leading to improved profitability. That said, minimizing transaction fees and shaving down labor costs isn’t where the real financial benefits come from. For that, we look to discount capture (to save money) and supply chain finance (to hold onto money longer). Putting both of those pieces together, we have a great recipe for working capital management that gives us different options that are more or less attractive in different scenarios. Whether we’re talking about saving money by paying early, or about facilitating your suppliers’ access to capital from a third party while you hold onto your cash, neither options exist without efficient invoice processing up front.

Discounting: Receiving a discount for paying your supplier earlier than required by your Net Terms. This can be a static discount term (ex. 2/10 Net 30) or “dynamic,” which is either dictated by a sliding-scale calculation (3% on Day 0, 2% on Day 10, 1% on Day 20, etc.) or arrived at by some collaborative offer/acceptance process between you and your supplier.

Supply Chain Finance: Having a third party pay your supplier earlier than the Net Term for a discount, followed by you paying that third party at the Net Term date. This is traditionally thought of as a way for suppliers to access capital based on your credit rating rather than their own. It allows you to hold onto cash longer, without making the supplier wait. There are other forms of supplier finance, so this is more accurately labeled “approved invoice financing.”

Key Performance Indicators
Days Payable Outstanding
This is the mirror of Days Sales Outstanding on the Order-to-Cash side. It take the amount of your current Accounts Payable and divides by the average amount of goods and services you purchase in a day (total Cost of Sales divided by 365). In case that was a bit confusing, here’s another way to think about it: (1) how much do you buy in a year? (2) at that rate, how much do you buy in a day?, (3) using that figure, how many days of purchases make up your current AP?  Higher numbers mean you’re hanging onto your cash longer, which yields a larger pool of money for the business to invest in other areas.

Supplier Participation Rate
While discounting can definitely save you money and supply chain finance can help you hold onto cash longer, neither will be much help if none of your suppliers have signed up for your programs. Your can look at participation from two perspectives. The first is by supplier numbers. That is: how many suppliers do you have in total, and what percentage of them are actively participating in (1) terms extension, (2) discounting, and/or (3) supply chain finance. The second–and more useful measure–is by spend volume. Here, you look at the total amount that you spend per year across all suppliers, and find what percentage of those purchases are with suppliers who have signed up for one of those programs.