The CFO'S Perspective

Vendor Management – Pay Now or Pay Later?

Vendor-Management–Pay-Now-or-Pay-LaterEffective cash flow management requires careful control of both money coming in and going out. While practices like shortening payment terms, offering variable pricing, and pursuing collections can increase the timeliness and amount of money coming in, delaying payments to vendors can slow cash outflows, providing the float needed to sustain operations during difficult times.

In an article about re-opening your business, Jeff Dunn explains succinctly, “Determine which vendors are critical to your day-to-day operations and pay them as timely as possible; which are important but can be paid slowly; and which are not important going forward that will be paid when able.”

How do you decide who to pay now and who to pay later, and how do you abide by vendor management best practices while doing both? This quick guide will help you answer those questions to improve your cash flow position right away.

Pay Now

Pay anyone you cannot afford not to pay.

Prioritize any vendor that is critical to your operations. If you cannot sell without receiving products or services from a vendor, pay them first to keep things running. Freeing up funds does little to ensure the sustainability of the business if you do not have cash coming into the business, which makes paying these vendors essential for survival.

Afterward, weigh the negative financial and relational consequences of not paying each remaining vendor and then pay anyone that will impose steep penalties or cancel the contract for nonpayment. Consider the long-term business implications of not paying a highly respected or well-connected vendor as well. Burning these bridges can make it more challenging to find suppliers and lenders in the future.

Pay Later

Hold off on paying vendors that do not penalize late payments. While this may seem like an obvious recommendation, many businesses are unaware of the specific payment terms included in their vendor contracts. Comb through contractual obligations and specified penalties to categorize vendors into “pay slowly” and “pay later” buckets.

Delaying payments to vendors that do not need to be paid immediately creates a kind of “interest-free loan,” which is an attractive proposition to cash-strapped businesses. Where possible, negotiate an extension, longer payment terms, or other alternative payments to improve your cash position.

Keeping Communication Open

The best cash flow advice is to ask vendors for more favorable payment terms when you are still in a strong position financially to improve cash flow before you need it. Start the conversation while your payment history is good to leverage that relationship. If you are a vendor’s largest customer or if you have numerous other choices for the same products or services, you can leverage your position to negotiate. Proactively managing vendor relationships is a shrewd way to plan for cash flow shortages due to market downturns, catastrophic events, or other business disruptions.

If you have not negotiated better payment terms before experiencing financial hardship, all is not lost. Approach the situation with honesty and ask vendors how you can continue working together until you are able to pay. They will likely appreciate your transparency and be more willing to work with you to find an equitable solution or compromise.

You should always communicate regularly with your vendors.

You should always communicate regularly with your vendors, even if you cannot pay yet. Reach out to them directly and/or respond to their attempts to communicate with you. Vendors get worried when they lose contact and are less likely to work with a customer that does not seem trustworthy. Additionally, they are more likely to send your account to collections if they cannot get ahold of you.

Similarly, contact your bankers if there is a risk that you will violate a loan covenant before you are unable to pay. Proactively communicating may afford you some flexibility if you do experience future financial hardship.

Remember, accounts payable is only one side of cash flow management. Staying on top of accounts receivable is crucial as well. Turn AR into cash by shortening time to payment and collecting on outstanding accounts. Strengthen your organization’s payment policy to allow you to change payment terms for customers with a history of paying late or who are at risk for nonpayment.

If you need insight into your cash position, use our cash flow calculator to understand your cash needs and availability as well as forecast changes to cash flow.

cash flow calculator

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Topics: Planning, Cash Flow, Expenses, Strategy, COVID-19

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