As part of managing financial-related risks, treasury departments at 44% of U.S. organizations surveyed by the Association for Financial Professionals (AFP) reviewed their company’s working capital performance in the past year.
Among the actions they took to help shore up working capital or improve efficiency was to work with banks or vendors to improve cash conversion cycles, found the AFP’s annual Risk Survey.
Given today’s environment of higher interest rates, more expensive credit and tighter credit conditions, volatility in sales, and the opportunity to actually earn some yield on idle cash, the attention to working capital is not surprising. But while tightening up on days sales outstanding (receivables) is a common tactic, companies can easily miss some of the opportunity to lengthen the deployment of cash to suppliers, i.e., increase their days payable outstanding.
“Once the ACH payment is made or the check clears, your liquidity is reduced at that moment, and the amount of that payment reduces the yield on liquidity opportunities.”
Vice president, Global Coupa Pay
In fact, the latest CFO/The Hackett Group working capital scorecard, released in June, found that many of the top 1,000 publicly held non-financial U.S. companies paid their suppliers quicker in fiscal year 2022 — by 4.7 days — giving up some of the liquidity gains from collecting on invoices faster. Part of the reason was that amid the supply chain kinks produced by the pandemic, assuring supply sometimes meant having to pay faster. But now many of those supply problems have been worked out.
According to panelists at the recent New York Cash Exchange Conference, there are “hidden pools” of working capital in accounts payable (AP) that many companies miss. By not finding these pools, a company lowers the yield it can earn on bank accounts or may unnecessarily have to use tools that incur a cost — like overdrafts from corporate bank accounts or drawing down a bank line of credit — to cover cash shortfalls. It may also miss a chance to pay down costly debt.
How can accounts payable be leveraged to improve short-term liquidity? The panel had four recommendations.
1. Hold cash until payment is due on the invoice
This sounds easy, but many companies pay early — when an average invoice is net 30, companies on average are paying within 15 days, said Tamir Shafer, a vice president at Global Coupa Pay, a unit of Coupa Software. One reason: AP departments inundated by invoices want to get payments out as soon as possible, so the invoice is off their desk or screen. Another — procurement negotiating nonstandard terms from a supplier.
“Once the ACH payment is made or the check clears, your liquidity is reduced at that moment, and the amount of that payment reduces the yield on liquidity opportunities,” said Shafer.
2. Use a credit card program
Paying suppliers with a credit card extends the payment terms. The credit card bill is sent sometime after the card usage, and the business may have another 20 to 30 days to pay the issuer after the bill is received, said Shafer. In addition, banks and issuers typically give “a hard rebate for every dollar being spent; on average, it’s 1%, but it could be higher or lower.”
“The rebate is great,” said panelist Marguerite Versacci, assistant treasurer at mining company Tronox. “We just use it to offset our other fees.” But where Versacci found the card also helps is in the company’s relationship management with the credit card provider. The more Tronox spends on the card, the better the service from the issuer, she said.
Virtual cards — digital versions of credit cards that offer more protection against fraud — are expected to grow in usage. More than two-thirds of growth corporate CFOs (companies with revenue between $50 million and $1 billion) surveyed by Visa in May and June expect to increase their use of virtual cards by 2024.
3. Leverage standard discount terms
If a company has the liquidity, paying the supplier on the discount terms — which are often 2% off an invoice if paid by day 10 (on a standard net 30) — can often be worth it, Shafer said. Of course, it depends on the company’s liquidity situation. Finance needs to determine if the discount is better than the company's other options — like holding onto the cash for the entire term and earning extra yield in Treasuries or a money market fund.
Tronox uses discounts on an ad hoc basis, said Versacci, sometimes advising its controllers to “take some early payment discounts on these selected customers.”
4. Try dynamic discounting in dire situations
Companies in a liquidity crunch — for example, unable to meet upcoming payroll — can try flipping the equation by offering their customers a one-time large discount if they pay quickly. It amounts to calling a customer and saying something like, “Hey, we’re in a liquidity crunch. We want to offer you a 20% discount on this entire year’s worth of invoices if you wire us the money today,” said Shafer.
An effective treasury department, working in concert with AP and procurement, has all the above tools available, said Shafer. Some suppliers won’t offer early payment discounts, or they’ll want payment in a timeframe shorter than the standard set by the company, or they’ll refuse to accept credit cards unless pushed by AP.
But the key, according to Shafer, is ensuring payment terms are identified across all suppliers, that effort is made to standardize payment terms, and that AP, procurement, and others understand the impact of standard payment terms on liquidity and yield.