Stretching Accounts Payable - Is It a Good Practice

Firms are constantly seeking ways to enhance cash flows. Our textbook discusses stretching accounts payable as a means of doing this. Using this method the company "improves reported operating cash flows due solely to a decision to slow the payment rate to vendors." (Gitman, 2009) This technique also has the capability of weakening a company's financial position. An alternative practice that may "provide a far better risk-free rate of return" (Gitman, 2009) is utilizing vendor discounts.

Many vendors offer discounts to companies that make payment on their accounts before the due date. The most common example of this discount is the " 2/10 net 30, which means that a payment is due in 30 days, but if the payment is made within 10 days then the payee will get a 2% discount." (Narayan, 2009) This seems like a win-win situation; the company saves money on its purchase of supplies and the supplier is receiving an early cash inflow. For many companies, this approach is very enticing but it may not be suitable for all.

Although we live in a world that is considered technologically sophisticated, there are still companies with antiquated payment processes which may make it difficult to receive vendor discounts. If A/P workers are inundated by colossal invoice trails, the company may not be able process them in time to meet the early payment deadline. Companies using automated accounting systems may not encounter this problem.

Another obstacle that may stand in the way of a company being able to receive a vendor discount is the quantity of supplies it orders. A firm "may have to increase its volume to qualify for discounts" (Rains, 2010) offered by the supplier. Whether the discount is worth the excess supplies is a question that must be weighed out carefully. "The plans of the diligent lead to profit as surely as haste leads to poverty." (Proverbs 21:5)

Gitman, L. J. (2009). Principles of Managerial Finance (Brief Fifth Edition ed.). (D. Clinton, Ed.) Pearson Education, Inc.

Narayan, J. (2009, December 15). When To Use An Early Payment Discount. Retrieved June 27, 2011, from Ordoro Blog: http://www.ordoro.com/blog/2009/12/15/when-to-use-an-early-payment-discount/

Rains, J. (2010, November 12). 4 Ways to Get Vender Discounts. Retrieved June 29, 2011, from Open Forum: http://www.openforum.com/idea-hub/topics/money/article/4-ways-to-get-vendor-discounts-julie-rains