Cash In, Cash Out

Whether your company is flush with cash or barely hanging on by a thread, how you manage payables can help unlock its potential.
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6 min read

This story appears in the June 2003 issue of Entrepreneur. Subscribe »

In January, home product distributor Jeff Schreiber traveled to Dallas for a trade show, a rare opportunity to meet with vendors in a deal-making atmosphere. Schreiber, 30, negotiated a deal to purchase $40,000 in ceiling fans from one of the manufacturers. Fortunately, the supplier agreed to give him until July to pay for the goods. But he also made Schreiber an appealing offer he couldn't refuse.

The vendor would give him a 3 percent discount for paying by May 1, and an extra three-quarter-point reduction for each month he settled the account before that. While a May payment would yield $1,200 in savings, Schreiber would save another $600 by paying in February. Not only that, the early shipment also gave Schreiber a jump-start on sales before any payment deadline. It was a win-win scenario for Hansen Wholesale, his $3.5 million company in Cerritos, California.

When a vendor dangles an attractive financial incentive, Schreiber rarely passes, wracking up $15,000 in early-pay savings in the past year alone. Says Schreiber, "Your money works better if you take advantage of the discounts."

Do the Math
Schreiber is wise to be so vigilant about cash flow. Knowing how to maintain a healthy cash flow is essential, yet entrepreneurs often overlook obvious ways to improve their financial position, including how they manage payables. While taking advantage of discounts reduces cash flow, savings go directly to a company's bottom line. Cash-strapped companies, meanwhile, often don't bother to negotiate extended payment terms.

Because businesses gain the greatest benefit from paying the invoice with funds generated by selling units from an order, how they manage payables plays a critical role in cash-flow management. In the best of worlds, a company can sell an item before it has to pay for it, so the payment terms serve as an interest-free loan.

It's quite common for a supplier to offer payment terms rather than requiring money upfront. A typical term is "2/10, net 30." This means the entire balance is due within 30 days of the invoice, but the buyer can deduct 2 percent if the bill is paid within 10 days of the invoice date.

"For a company doing a million dollars a year in purchases, that translates into $20,000 that flows to its bottom line," says Marty Weiss, counselor at the San Diego chapter of the Services Corps of Retired Executives. "If you have money in the bank, why would you throw away the $20,000?"

Companies with restricted cash flow, on the other hand, need to take as long as they can without incurring late fees or interest charges to pay bills. Experts advise them to take the extra step of obtaining liberal payment terms to carry them through slow selling periods. Because delayed payment terms are costly to the supplier, business owners should be prepared to offer something in return, such as buying a certain amount or displaying the vendor's product more prominently, maintains Weiss.

Whether asking a vendor for extended payment terms or for an early-pay discount, entrepreneurs have to assess whether a supplier's demands are realistic. "If I was doing $4,000 in purchases a month and the vendor said 'I want you to buy $40,000 worth of product, and I'm going to have [payment] due in three equal installments,' that's not going to work," Weiss insists.

By the same token, it may not be practical for a business to increase purchase volume as a condition of receiving better terms. Rather than easing cash-flow burdens, it may tie up too much capital in stock, creating payment problems. "[Paying late] is not an advisable way of improving cash flow," Weiss warns. A supplier may ultimately require cash in advance or limit credit, stifling business growth.

Stand Your Ground
Vendor negotiations, even under the best of circumstances, are daunting. Schreiber, who already had experience brokering vendor contracts, can see how an aggressive sales agent could be intimidating. His advice: Be prepared to walk away. "As soon as you're afraid to walk away, you lose leverage," he says.

Before buying a product, Schreiber meets with at least three vendors, asking each the same questions. "I leverage one vendor vs. the other. I say 'I'm working with this vendor, and this is what they're going to give me; why aren't you able to give me this?' They'll often bring up a point that I'm not getting, and then you try to marry the best of everything into a final proposal you send to all of them."

A business owner, Schreiber says, will have more power if he or she buys large amounts from a small group of vendors. "You can leverage that better than buying from a lot of vendors and spreading it around. You're a bigger fish."

While business owners may think to inquire about discounts for volume and frequent-customer discounts, they shouldn't stop there, says Ray Silverstein, founder of the Chicago-based President's Resource Organization, a network of business owners. Entrepreneurs may get a promotional discount, for example, by creating an advertising plan for the vendor's product, such as featuring it in a catalog. "Your imagination," he says, "is your only limitation."

Silverstein also recommends requesting "obsolescence money," which allows your company to upgrade to an enhanced product at no additional cost, and striking a deal to eliminate your need to return defective items to vendors. Another option is asking for bulk packaging instead of paying more for individually wrapped items.

Consignment financing, he says, also helps minimize cash flow going out of the business. While the entrepreneur may plan to use a certain number of items over a period of time, their need often varies. Vendors may let companies place a standing order for the entire amount but will hold on to the product until it's required, eliminating the need for businesses to carry the cost of maintaining inventory.

Co-op advertising is another under-used strategy. It allows the retailer to place an ad partially paid for by the manufacturer in return for mentioning the product. A vendor may have a 5 percent co-op advertising program payable on a fifty-fifty basis. In that arrangement, a $100,000 purchase would earn the company $5,000 in advertising funds. If the entrepreneur purchased a $1,000 advertisement, the vendor would contribute 50 percent, or $500, from the account. "It increases cash flow with your vendor but has nothing to do with invoices," Weiss says. "These are major differentials in your profitability if you're doing real business."

Crystal Detamore-Rodman is a Charlottesville, Virginia, writer who covers the small-business finance market.

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