When extending credit to a customer, the payment terms often will depend on the current economic climate. When times are rough, such as a recession or slow down, customers may need extra time to pay their invoices. In uncertain times like what we are experiencing with the current COVID-19 pandemic, you will likely see many of your customers ask for extended payment terms. Before you say yes to those requests, it’s important to carefully assess the situation and evaluate the pros and cons to your business.

What do we mean by extended payment terms and what drives these exceptions?

When a business agrees to extend credit to a customer (e.g., a supplier offering credit to a building contractor), the typical repayment term is 30 days. In some situations, a company may ask to extend the invoice payment deadline (e.g., 90 days or more) to accommodate a lack of cash flow or a desire to free up capital to take advantage of a growth opportunity, among other reasons. However, this can often create a financial burden for the supplier.

During the Great Depression, the 2008 Recession, and other times of economic hardship, requests for extended payments have increased, leaving suppliers in a difficult situation with their customers, as they are often struggling as well. Today, we are facing a financial crisis and uncertain times due to the COVID-19 global pandemic.

Many businesses are facing difficulties due to supply chain disruptions, staff illnesses, reduced business hours, and business closures (non-essential businesses) that can disrupt the business cash flow and prompt requests for extended payment terms. Businesses that are currently struggling for profitability — those with low cash reserves or unstable cash flows — are particularly vulnerable. Even businesses that appear to be in good financial shape may not be immune. The impact of this financial crisis will really depend on how the situation progresses and how long it takes for demand and supply chains to return to normal.

This is the reality that companies on both sides of a credit transaction are facing. As a supplier or lender, you must carefully weigh the benefits against the potential harm it could cause your business.

Pros and cons of extending payment terms

Although businesses depend on consistent cash flow and would prefer prompt payment of an invoice, there may be benefits to agreeing to a customer’s request for extended payment terms. For example, by demonstrating flexibility and willingness to work with your customers through extended payment terms, you can not only build trust and loyalty with your customers, but also enhance your reputation. Additionally, by granting this request you may acquire new or retain existing customers, giving you a competitive edge and increased market share.

That said, giving extended payment terms does come with some risks. The delayed payments can cause cash flow problems for your business, limiting your ability to reinvest and grow your business. There’s also a greater risk that the customer will default, leaving you to deal with the collections process and associated costs.

In today’s business climate with COVID-19 causing significant challenges, the frequency of these extended payment requests is likely to increase. When customers ask for extended payment terms (as they likely will), you must be prepared to answer these requests.

Tips for crafting a response

Make sure you have guidelines in place for your credit professionals when customers ask to extend their payment terms. Here are some tips to consider when crafting your response:

  • Respond promptly and answer the request in a way that fits your needs.
  • If you are able, offer incentives to encourage on-time or early payments
  • Consider suggesting financing as a solution to allow her or him to make the payment and avoid the need for formal business collections.
  • Depending on your business and cash-flow needs, consider negotiating reduced delivery of goods or services to ease the need for a delay in payment.
  • Explain your business and why you need payment to operate and to continue to provide goods and services. You also can let your customers know that your policy prevents you from giving special terms to individual customers; detail the Robinson-Patman Act, which disallows businesses from charging different payment terms and pricing structures to customers of the same grouping.
  • Just say no. If a customer requests a delay and you are unable to accommodate her or him, kindly inform the customer that you are unable to extend dates and explain why.
  • Know your customers. If a customer has always been reliable and a circumstantial issue is behind the request, a one-time “yes” on delay of payment may be worth it to retain the business, if allowed under the Robinson-Patman Act. On the flip side, if the customer is already continually late, reevaluation of your relationship may be necessary.

No one knows right now how quickly the economy will bounce back. In times of uncertainty and economic downturn, it’s likely you will receive more requests for extended payment terms. Before you respond, it’s important to assess each request individually to make the best choice for your business. Analysis and internal discussions regarding your policies and guidelines will enable you to craft appropriate responses to these requests. Your due diligence now will help to ensure you don’t risk your own financial health for the sake of a customer.

Need help managing your commercial credit risk? MSCCM financial experts can assist you. Contact us today.