As MarketFinance CEO Anil highlighted in 5 things to look for in your embedded finance partner blog, embedding finance options allows B2B marketplaces and e-commerce platforms to unlock a lot of great benefits. It helps achieve a higher velocity of transactions, delighting customers with better variety, alongside driving increased loyalty and basket sizes.
While there are certainly great commercial benefits to embedding finance for customers at the point of purchase, the benefits spill over into many teams. I’d like to share another perspective on why your finance team should be just as excited for the introduction of this innovation.
Buy now, pay later has been a hot topic in the consumer world, with the emergence of several providers taking the retail world by storm. However, for those involved in business-to-business (B2B) commerce, the concept of buy now, pay later is par for the course, albeit under the less adorned title of trade credit. For history buffs, the earliest forms of trade credit are recorded as promissory notes on Babylonian clay tablets dated around 3000 BC. So, in and of itself, buying now, paying later is not revolutionary.
Before we explore trade credit challenges and embedded finance (buy now, pay later) solutions, let’s define a few key terms (via Investopedia):
Trade credit is a (B2B) agreement in which a customer can purchase goods without paying cash up front, and paying the supplier at a later scheduled date.
Credit risk is the risk businesses incur by extended credit to customers.
At MarketFinance we have over 10 years of experience in understanding B2B payments and payment terms with our invoice finance facilities. Many suppliers that we partner with also acknowledge that managing a credit policy is difficult to get right. Here are are three common challenges we hear:
- Manual process to review credit applications and monitor creditworthiness of existing customers is time-consuming and requires dedicated Credit Controllers
- Difficult to create the right balance between a restrictive credit policy which is better for getting paid, but can lose sales, and a lenient credit policy which grows sales but increases the risk of unpaid invoices and time spent on cash collection
- Hard to determine credit worthiness when using a limited amount data which can be particularly damaging for small business customers access to credit
With trade credit, sellers offer 0% financing to buyers, typically from their own balance sheet, during the time taken to collect payment after completion of a sale (days sales outstanding). While the ‘sale’ is accounted for within the accounts receivable position, in practical terms this money is not available to spend.
Let’s break this down to understand some of the challenges:
- Nothing is free – there’s always a cost. If the supplier truly offers 0% financing, there’s an opportunity cost as idle funds are not earning interest or investment income. Otherwise, if the supplier has factored in the cost of financing (implicit interest rates) to pricing, the cost is passed to the buyer
- ‘Cash is king!’ – particularly relevant today as we look towards a gloomy economic future, late-payments are on the rise, and it is expected that delinquencies will follow. In this climate, many sellers will look to clamp down on their credit risk exposure (losing sales in the process) to preserve cash-flow and ensure they can meet their own financial commitments. However, this is a real source of friction, as buyers themselves will be feeling the squeeze and will be requesting extended payment terms from sellers.
- Cash collection – In organisations of all sizes, this remains a time consuming and labour-intensive process. It can be particularly costly in labour to an organisation when chasing for payments that are already past due
Before embedded finance came around, finance teams have historically taken a few different approaches which have their pros and cons – here’s a view:
Trade credit insurance reduces credit risk exposure by ensuring sellers are repaid if a customer is unable to pay back. This is a good option to manage risk, particularly with innovative entrants such as Nimbla helping SME sellers to insure single invoices allowing them to take on larger contracts with manageable risk. However, Trade Credit Insurance still requires the seller to fund the trade credit which affects cash-flow and in most cases they will only be able to recoup 75-95% of the invoice.
Trade discounts are sometimes offered to buyers for early settlement of invoices, which can help to speed-up cash collection for the seller. However, this approach becomes less popular with buyers in uncertain economic conditions. During these periods, companies generally try to hold on to cash for as long as possible, which unfortunately is precisely when sellers themselves would be looking to improve cash flow. Additionally, by offering discounts, suppliers eat into their operating margins.
Invoice finance improves cash flow as the provider advances 80-90% of the value of your invoices upfront. However, sellers are still liable for late payments and non-payments unless they opt for a non-recourse facility, which becomes costly.
Embedded finance solutions such as ours provide buyers with instant credit decisions at the point of purchase and on-going risk monitoring. Instead of your team having to perform manual credit application reviews and on-going monitoring, give them valuable time back for other critical tasks.
Embedded lending providers take on the credit risk exposure and cash collection responsibility. This means financial performance is protected from bad debt resulting from non-payment and freed from the administrative resource associated with cash collection. As an expert with 10 years’ experience in credit and payments, MarketFinance minimises losses with our proprietary risk decisioning models and automates cash collection through innovative technology.
MarketFinance immediately pays merchants for orders that customers choose to pay later – they could select ‘pay in 30 days’ or ‘pay at end of month following’, for example. This reduces your outstanding days to zero and unlocks cash from your accounts receivable that can be used for working capital, invested for growth or put aside for tougher times.
Trade Credit policies tend to disadvantage small business customers where it can be difficult to form a view on credit risk, resulting in lower or no credit being offered.. Embedded finance lenders with experience lending to small businesses, such as MarketFinance, will increase the total coverage of customers that can obtain access to the credit they need. In turn this helps to grow your customer base and revenue.
By reducing the operating costs of managing a trade credit process (and also the associated payments process), finance can improve operating margins.
Did you know? According to research published by Frost & Sullivan, B2B sellers can on average increase revenue between 25-35% if payments are received immediately and invested in strategic growth activities. Their research also found that the cost of managing trade credit can add, on average 8% to 10% to the total cost of business operations, which suggests partnering with an embedded finance provider can reduce cost by up to 10%.
Do you currently have a trade credit process that could be optimised? If you’re interested in seeing how MarketFinance can help, get in touch with me on firstname.lastname@example.org or find out more here.