For a business looking to navigate uncertain times, the key focus is to optimise its working capital cycles. Early payment arrangements instead of discounts have gradually become an essential part of working capital management. Here’s how: suppliers tend to offer buyers a discount if they pay the invoices before a specified date.
This essentially helps them in addressing their liquidity problems. With the introduction of dynamic discounting and automated invoice processing, lead times have reduced significantly, allowing businesses to make the most of their available resources.
Dynamic discounting is a buyer-led solution that allows sellers to collect payments early, at a discount on the invoice value. Such a discount is calculated dynamically depending on the number of days pending the invoice’s due date.
The earlier an invoice is paid, the higher the discount offered on it. This enables a win-win situation, allowing buyers to use surplus cash and receive risk-free returns. On the other hand, the suppliers can enhance their working capital by minimising the number of days to collect payment from their customers.
If businesses have ample cash, it is advisable to use dynamic discounting for supply chain management. It offers low risk, and there is a good chance that most of the company’s suppliers would participate in this programme. Therefore, dynamic discounting is a sustainable solution compared to traditional invoice discounting, offering low returns for a supplier.
However, traditional invoice discounting models would better serve the purpose if a company does not have cash surpluses and wants further to extend the payment tenure from the due date. Similarly, if a company wishes to enjoy longer payment terms and maintain the abundance of cash in hand, the company doesn’t necessarily have to opt for dynamic discounting.
Before opting for dynamic discounting, the suppliers must also evaluate their financial standing for ensuring that they can afford small discounts to receive early payments.
Traditional invoice discounting refers to the process where the seller receives their sales invoice dues before the due date, financed by a third party, after withholding a small percentage amount. It is usually financed by a lending institution or the invoice discounting company to whom the seller sent or sold the invoices on credit sales. The invoice discounting company, in turn, is responsible for finally collecting the full payment from the buyer on the due date.
By selling the invoices, businesses could receive quick access to funds, improving the company’s working capital cycle and cash flow. It is a common financing method used by businesses that can’t or don’t want to wait for their customers to honour their commitments. Invoice discounting is one of the popular forms of financing.
Traditional discounting and dynamic discounting are two different approaches to invoice discounting. The main differences between these two popular forms of invoice discounting are as follows: