Generating strong and consistent cash flow depends on more than making sales. Good cash flow also requires customers to pay their invoices in full and on time. Some business owners achieve amazing success by offering an early payment invoice instead. This invoice includes an offer of vendor discounts for early payment.
What Is an Early Payment Discount?
An early payment discount is an incentive creditors can provide for paying invoices ahead of schedule. It discounts the total amount due by a fixed number or a percentage. Customers can only receive this discount if they pay early. Accounts receivable teams also refer to this as a “prompt payment” or “cash” discount.
Sasha operates an organic farm. She supplies vegetables to local restaurants in bulk.
Lately, her clients have had cash flow problems and have been paying late or not at all. She sends early payment invoices to all her clients, offering a 2% discount on their outstanding balances if they clear their bills before the next deadline. One local restaurant owed her $10,000. By paying early, the company’s 2% discount resulted in a payment of $9,800.
What Are Advantages of Early Payment Discount?
Some business owners believe early payment discounts are expensive and unsustainable. However, when deployed the right way, business owners can benefit from healthier cash flow and stronger business performance.
Quick Access to Cash Flow
Money has immediate value, but it also has a time value. The longer it takes you to earn money, the more it costs you in time, effort and credit utilization. Consequently, the best advantage of early discounts is earlier access to your funds.
Improved Payment Performance
Smart businesses are always looking to save a buck however possible. A discount on the total value of business transactions is a strong incentive for customers to prioritize payments. This could put your business on top of their list of companies owed.
Better Customer Relationships
Hassling customers for payments can damage long-term relationships. Even when customers know they owe the money, it doesn’t make the experience any less unpleasant. Incentives for early payments reduce these interactions, which also improves customer retention.
How Can Businesses Organize Accounts Receivable Discounts?
Because of the cost involved with accounts receivable discounts, A/R teams must know how to organize this type of invoice collection incentive. These are some factors to consider:
Temporary vs. Permanent
Some companies choose to make the discount a permanent feature of the business model. Companies that charge high markups and generate high profits can usually afford to do this. Small businesses may find it best to reserve this method for periods when money is tight.
Traditional vs. Dynamic
Traditionally, suppliers offered discounts for payments made within a specific period. For example, “2/10 net 30 days” meant customers received a two percent discount if they paid those invoices within the 10-day period before invoice maturity. The dynamic method provides discounts for early payments any time between sales and invoice maturity.
Short-Term vs. Long-Term
Short-term discounts tend to relate to 30 days or less, but most people have also experienced long-term early pay discounts. Consider the difference between paying monthly for car insurance and paying for six months or a year in full. Companies with customers who maintain fixed monthly orders can consider this model.
How Can Accounts Receivable Invoice Automation Help?
Business owners often use automation tools to send out early payment invoice offers to their customers. Automation can also reduce the need for discounts by consistently prompting payments for invoices without the active involvement of the A/R team.
Discover firsthand how this can improve your collection efforts. Try our Gaviti demo.