The slap game used to be a popular tradition for middle school kids looking for ways to fill the monotony between classes. Opponents face each other and attempt to slap the other’s hands as quickly as possible. It’s a great test of reflexes, but if played long enough, both opponents eventually end up with red welts on their hands. Nobody wins this ultimately pointless game.
Companies play the slap game with each other when managing working capital. Procurement departments slap vendors into 60 or 90-day payment contracts. Meanwhile, the same company’s sales organization is slapped by their customer’s procurement departments. Not long ago, a 30-day term was standard for a vendor contract. Today, procurement and supplier contract organizations are pushing the envelope to 60 and even 90 days—completely ridiculous.
Companies extending each other’s payment terms is unadulterated working capital gamesmanship. There is no winner and most organizations end up slapping themselves with additional headcount costs, poor pricing, and quality issues.
Slap #1 – Headcount
To perpetuate working capital gamesmanship, organizations create and staff contracts and sourcing functions to pressure vendors into submission. These functions delay contract agreements while adding administrative overhead. According to surveys, an average one-billion-dollar organization has double the necessary contract and sourcing staff. This staff costs an average of $2 million/year while only saving $1 million/year in working capital gains for 30 days DPO. What’s the point?
Slap #2 – Pricing
Savvy sales organizations have become less lenient with pricing concessions on slower paying customers. A recent survey of pricing scenarios is eye opening. Pricing concessions on 30-day payment term customers was 2% more favorable than 60-day payment customers. This translates into $6MM/year in excess spending for a one-billion-dollar company. In other words, organizations are spending more to spend more. Red welts are showing.
Slap #3 – Quality
Organizations have a greater incentive to keep faster paying customers happy. In a survey completed by Trenegy in 2013, faster paying customers tended to get priority for shipping, service response time, and overall quality. Poor vendor quality can cost more than the savings in working capital. The red welts are now hurting.
Working capital management is typically the window dressing on the balance sheet and should be properly managed. Unfortunately, organizations tend to take the path of least resistance. It’s easier to beat up a vendor than to push back on customer payment terms for fear of a lost sale. Losing a sale over payment terms does not happen. Organizations should spend less time fighting the vendor contract terms and more time focused on getting customer contracts right. This is where the true value begins and the slaps end.
Trenegy helps companies develop processes to manage working capital without succumbing to the slap game. For more information, email us anytime at firstname.lastname@example.org.