Background

Some vendors offer a financial incentive to entice their customers to pay early. The most common enticement is the 2/10 net 30 payment terms. As most reading this are well aware, this means that although the payment is due on the 30th day, a customer can take a 2 percent discount if it pays before the 10th day. Any introductory finance book will walk you through the math that demonstrates that 2/10 net 30 is equivalent to a 36 percent rate of return; hence even 1/10 net 30 translates into an 18 percent rate of return. While the individual amounts may seem small, they do add up. Losing a 2 percent discount on a $10,000 invoice may only result in $200 not earned, but multiply that by the number of invoices processed and the amounts start to add up.

This issue becomes even more crucial for companies operating on razor-thin margins, as this extra return can make a huge difference in the bottom line. However, many organizations have such cumbersome and inefficient processes that it is impossible to get the invoice turned around in the requisite 10 days.

Now, if you are sitting there thinking that this is not a big deal for you because your organization takes that discount regardless of when the invoice is paid, you may be in for a big surprise. Many vendors are either billing you back for those unearned discounts or have increased their prices to adjust for your practice. Still others are trying to move away from the practice completely because as attractive as the financial incentives may be for you, they are equally unattractive to them.

The Timing Problem

This issue relates to when the clock starts ticking. Usually, the customer and the vendor have a different idea of when the timing starts: The customer believes that the time starts when the invoice hits the AP department, while the vendor starts counting on the date on the invoice.

Companies sometimes have a difficult time processing invoices in a timely enough manner to qualify for the early payment discount. Let's face it, 10 days isn't a lot of time when:

• Accounts payable has to receive and log in the invoice.
• A copy of the invoice must be sent to the appropriate person for approval.
• The approver has to review the invoice, approve it, and return it to accounts payable.
• The accounts payable associate has to process the invoice and schedule it for payment.
• The check has to be printed and signed in the appropriate check run, which can be as infrequent as once a week.

Thus it is imperative that good procedures be established regarding where invoices are initially sent and how much time executives have to approve invoices and return them to accounts payable for payment.

Making the Most of Your Discounts

The goal -- assuming that it is financially profitable to take the discount -- should be to take all discounts for which the company qualifies. Many companies stretch the early payment term for a few days and will take the discount up until, for example, the 15th day. Whatever the policy regarding taking discounts after the discount period has ended, it should be formalized and in writing.

If there is a problem getting invoices processed in 10 days, simply focus on your larger ones, where the real financial gain is. Payments -- especially large ones -- that involve an early payment discount should be flagged to ensure that they receive priority handling so that discounts are not lost. Returns like this are hard to find in this market!

MARY S. SCHAEFFER is the author of Controller and CFO's Guide to Accounts Payable and 12 other business books. She serves as the publisher of Accounts Payable Now & Tomorrow, a newsletter for professionals interested in payment issues and directs the organization's growing consulting practice. She can be reached at marys@ap-now.com or 516-767-0540.