Supply chain finance is often utilized when a buyer doesn’t have a surplus of cash available and wants to optimize working capital by extending payment terms. The buyer is then responsible for paying the invoice amount (plus a fee) back to the third-party institution according to the payment terms (e.g., net 60). But instead of receiving the payment directly from the buyer, payment is remitted by the bank or other third-party. What that means is that a supplier receives the payment for an invoice as soon as it has been approved by the buyer. In this model, also called reverse factoring, a bank or other third-party financing provider pre-finances supplier invoices. ![]() What Is Supply Chain Finance?Īs opposed to dynamic discounting which is funded by a buyer’s excess cash, supply chain finance (SCF) involves a third-party financing provider. But before rushing into a dynamic discounting agreement, it’s important for suppliers to assess their financial soundness to first ensure that they can afford to do so. Many suppliers, especially SMEs, do this willingly-it’s more important for them to lower DSO and increase cash on hand if they want to invest in growing their business. However, by participating in a dynamic discounting scheme, suppliers agree to reduce their prices and take a slight hit on their own profitability as a result. Overall, dynamic discounting is a low-risk financing option for buyers that want to boost profitability and give their suppliers the benefit of early payments. Enhanced flexibility. Suppliers decide which invoices are eligible for dynamic discounting.Improved financial forecasting. Suppliers decide when they want to get paid and can better predict future cash flow as a result.Optimized working capital. Dynamic discounting lowers DSO and increases cash on hand.Pros: Dynamic Discounting Benefits for Suppliers: Improved relationships with suppliers. They also reap some dynamic discounting benefits!.Automated early payments. With an EDI or e-invoicing solution, buyers ensure that they never miss a payment and always receive the discount.Strengthened supply chain. Early payments increase flexibility and reduce the likelihood of any disruptions.Optimized working capital.More cash is brought into circulation.Low risk. Investments are funded by excess cash.Increased profitability. Early payment discounts on goods and/or services often provide a larger return than potential interest earned.Pros: Dynamic Discounting Benefits for Buyers: ![]() That being said, if the buyer has an abundance of cash, dynamic discounting can be a viable solution to boost profitability on cash that would otherwise be earning (minimal) interest. To clarify, the buyer should not participate in dynamic discounting if the only cash available to them is being used to fund other strategic transformation and financial initiatives (i.e., debt settlement). In order to pay the invoice early, the buyer needs to have cash on hand that is generating little to no return. The agreement isn’t static and is subject to change at the suppliers’ own discretion. Suppliers chooses which invoices are eligible for an early payment discount and which are not. ![]() The discount is often a percentage of the full invoice (i.e., 5%), and the amount typically depends on how quickly the payment is made.Īs opposed to more traditional early payment discounts, dynamic discounting is applied on an invoice-by-invoice basis. What Is Dynamic Discounting?ĭynamic discounting is when a supplier agrees to give a buyer a discount on goods and/or services purchased if the invoice is paid early. In utilizing one (or both) methods, buyers and suppliers can achieve their goals despite conflicting motives. That’s because, in order for suppliers to optimize working capital, they need to lower their days sales outstanding (DSO).įortunately, there are two possible financing methods that have the potential to result in a win-win for both parties: dynamic discounting and supply chain finance. That’s the exact opposite of what suppliers are trying to do, however. But let’s be honest: They’re probably trying to increase it. So even if they’re sitting on a pile of cash, there’s not really any reason for them to send the payment early unless their goal is to reduce their days payable outstanding (DPO). In other words, they want to spend their money on the things that can have the most impact on their business, say, digital transformation. So what’s the holdup?ĩ times out of 10, buyers remit payments at the last minute to optimize working capital. Oddly enough, buyers typically wait until the due date to remit their payment. When it comes to paying off an invoice in a business-to-business (B2B) transaction, the sooner the better for all parties involved.
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