Late payment can be life-threatening for many organisations in the UK, and its effect on the smallest businesses is where the impact is most acute. Those with fewer than 50 employees are typically twice as likely as large corporates to report problems with late payment. Recent research reviewing the cause and impact of this issue has highlighted that the key to ending late payment is to build a financial infrastructure that boosts trade credit, particularly for small businesses. With a new Government in place, it presents the perfect opportunity to stamp out the culture of late payment by taking a fresh look at the causes and what can be done to target these from the outset.
The late payment dilemma
Late payment is a common by-product of one of the most important financial markets in the world – the growing market for trade credit, which supports almost half of all business-to-business transactions globally. Late payment can refer to many different types of behaviour, but the most common form appears to occur when healthy customers simply pay invoices after the agreed date. At least 30 percent of all credit-based sales in developed and emerging markets are paid outside the agreed terms.
Importantly, late payment is not generally the product of flawed business or national cultures as is often implied. Industry structures, norms and hierarchies, relative market power, business cycles, financial infrastructure and legal systems are much stronger influences. Although late payment can be rational, it can hurt individual small businesses and the wider economy through increased costs, reduced hiring and capital spending and the failure of suppliers.
Ending late payments
Despite its importance, ending late payment has proved to be an elusive goal for governments across the world. What the UK Government must now recognise is that late payment is essentially a demand for credit and start tackling the problem as such. The efforts of our incoming Business Ministers need to be fully focused on building a financial infrastructure that boosts trade credit through support of alternative finance and the free availability of credit information.
This approach has the potential to be far more effective for UK businesses than the measures currently proposed around improving the legal framework for late payment disputes and ensures that Government policy makes a positive difference far earlier. When late payment becomes a chronic problem, supply chains are affected beyond repair and customer relationships fail.
Small businesses can also protect themselves through careful due diligence and by understanding the administration of their operations. The Government announcement last year that banks must share information was an important step forward and SMEs should recognise the value of their data.
The research review of the issue highlighted that the sustainability of payment terms are best understood in the context of managing relationship capital, with both buyers and suppliers understanding how supply chain relationships create value and investing in them. In practice, for terms of credit to be sustainable a number of conditions should be reviewed and met:
1. Buyers’ and suppliers’ standard terms of credit should be transparent.
2. Cash flows to suppliers should be predictable through explicit credit policies and contract terms.
3. Invoicing, collections, accounts payable and invoice dispute processes should be efficient and transparent, with senior staff taking responsibility.
4. The status of invoices should be easily monitored throughout their lifetime.
5. Suppliers should be aware of the cost of providing credit to customers.
6. Differentiated pricing should reflect the suppliers’ cost of capital, so that neither they nor their prompt-paying customers are forced to subsidise late payers in the long term.
7. Customers and suppliers should give each other adequate notice before seeking new terms of credit, so that alternative financing can be sought in time.
8. Suppliers should seek to understand, and customers should be honest about, the causes of late payment and the viability of late paying customers.
9. Payment plans should be set out explicitly in contract terms and genuinely troubled customers should opt for these rather than resorting to late payment.
UK policymakers need to rip up the rulebook and start again when it comes to how they manage and regulate late payment. With the right intervention, late payment doesn’t have to be a fact of life for businesses. Alongside the factors considered in our research, the new Government has the opportunity to make trade credit regulation more effective and simultaneously get to the root cause of late payment currently impacting our businesses and wider economy.