Buy now, pay later. It’s the catchcry of companies trying to make it as easy as possible for consumers to have what they want, when they want it.
But there’s always that nagging feeling in the mind of the consumer: “what if I can’t pay later?”
The idea of instant gratification isn’t limited to online fashion stores. In business circles, it’s called trade credit, and the chief concern here is “what if the owing business goes bust?”
In January 2020, Canberra building company Banyan Constructions became insolvent, leaving 241 creditors out of pocket by more than $22 million. Liquidator Ernst and Young told the creditors they were unlikely to ever see their money again.
It’s an all-too-familiar scenario. According to Allinsure partner Tate Harris, about 10,000 businesses in Australia become insolvent each year on average.
“When this happens, a liquidator will review the failed company’s books and assets and liabilities,” Mr Harris says. “They will then sell off the assets in an attempt to get some funds together to pay back all the creditors.
“Normally, employees are paid first, then banks and secured creditors second and unsecured creditors – or suppliers – are paid last. In most cases, there aren’t enough funds to pay suppliers anything.”
Trade credit is a business-to-business agreement in which a customer can purchase goods without paying the cash upfront. Usually, buyers will have 30, 60, or 90 days to pay, with the transaction recorded through an invoice.
Trade credit can be thought of as a type of zero per cent financing. It increases a company’s assets while deferring payment for a specified value of goods or services to some time in the future, all with no interest.
By offering to sell goods and services through credit arrangements, the company is instantly more appealing than a company that demands up-front payments only.
But things can quickly turn messy when an owing business goes belly up.
Mr Harris says COVID-19 may have seen the number of insolvent businesses come down to between 4000 and 5000 over the last couple of years as government stimulus payments kept many businesses afloat, but these payments are now drying up.
He says it’s more important than ever for companies to invest in a trade credit insurance policy.
“A trade credit insurance policy will not only provide protection if a customer does fail but it will help provide a framework to help clients avoid a loss in the first place.”
Trade credit insurance (also known as debtor insurance or accounts receivable insurance) has been around in some form for more than 40 years in Australia.
It is designed to protect a business against unpaid commercial debts caused by financial or political reasons that result in customers not being able to pay their bills.
In the event a business has an unpaid invoice, the insurer may try to recover the debt first through negotiations or debt-collection services. If the debt cannot be recovered, the insurer will then offer a settlement based on the specific terms and conditions of the policy.
RSM senior manager Adam Cormack at RSM says prevention is better than cure.
“The first thing a business needs to do to protect themselves from debt is to document their trade terms and credit policy. Then have their customer sign those terms before extending any credit to them,” he says.
“Having documented terms assists businesses if they need to commence recovery of any unpaid debts, in turn assisting in the prevention of bad debts.”
These terms can also include ‘retention of title’.
“Under that retention of title, the company can register that they continue to own those goods until such time as they are paid for in full,” Mr Cormack says.
“If a company were to go into external administration the retention of title registration would allow the supplier to repossess the unpaid goods.”
Buying credit information from a credit bureau such as Illion, Equifax or Creditor Watch can also be useful for knowing whether or not it is safe to deal with a business.
Mr Cormack says provided trade credit is managed well, it can be a smart business move.
“Not everyone is going to want to pay cash on delivery. You’re broadening your customer base and as a result, increasing your business revenue.”