Advantages and Disadvantages of Obtaining Credit Terms With Suppliers

How to determine if vendor credit lines provide leverage for your company

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It's always advisable to have a good rapport with both your customers and your suppliers when you're running a business. Running a successful venture requires sources from outside, and you'll know that you can get a constant supply of goods without having to make an upfront payment if you have a good relationship with your suppliers.

Striking a deal with vendors to receive goods without having to make upfront payment is referred to as "trade credit." But many upcoming entrepreneurs turn to trade credit as a form of payment without really understanding what it entails. If you're going to be successful, it's crucial that you know both the advantages and disadvantages of trade credit as a form of payment.

Advantages

  • You can pay the vendor after you've sold the goods if you're in a short-term, financially unstable period.

  • You can keep up with trends in your industry through conversation because you can be sure your vendors will be in touch on a regular basis if you owe them money.

  • Percentage discounts as a reward for paying in short order can help keep your business costs down.

Disadvantages

  • You'll pay financial penalties if you don't pay within 10 to 30 days, and this can drive your costs of doing business up.

  • It can damage your credit if you don't pay or are consistently late.

  • You could run into trouble if your business is subject to seasonal lulls so you must borrow money to pay off vendor debt and remain in good standing.

The Advantages: A Guaranteed Supply of Goods 

Having a constant supply of goods while at the same time making regular sales to clients is the goal, but it can sometimes be difficult to keep things flowing smoothly between you, your supplier, and your buyers. A business owner who has a vendor who trusts him will have no trouble if the vendor agrees to provide merchandise on the promise of payment at a later date.

This enables you to conserve cash flow, and it ensures that you'll have a constant supply of goods even when your finances aren't stable. You should be able to sell repay the vendor during the agreed period from the profit you earn from selling that merchandise.

Industry Insights and Trends

Having a reliable vendor should also keep you updated regarding any changes or developments that your industry might be undergoing. Any vendor who has supplied you with wares will keep in contact with you because your business owes him money...and he will most likely be in touch with several others in your line of business as well.

You'll learn the latest quality of goods that have emerged and how you can prepare yourself for them in the near future—if you just ask.

It Can Increase Your Creditworthiness

Many suppliers also stay in touch with each other and share information about the businesses they supply. If your supplier runs out of merchandise you need, she might connect you with another supplier who has what you're looking for. You can ideally develop a constant supply of goods from different vendors without necessarily paying cash on delivery every time.

Keep in mind that you must honor all your agreements, however, paying the right amount within the agreed time period.

Enjoying Trade Discounts

Successfully running a business means making sure that your costs are minimized. Vendors often offer percentage discounts depending on how immediately you make payment after receiving your products. The sooner you pay, the higher the percentage. This minimizes the costs of the supply.

The Disadvantages: High Costs 

You must be prepared to pay for penalties if you fail to pay for the merchandise within 30 days. Penalties are also calculated as a percentage. The later you pay, the higher the penalty and the higher the costs of your goods.

You must usually have to make payment within the first 10-day period or within a 30-day period if you want to keep the costs of running your business at the lowest point.

Trade credit is only profitable for buyers who are able to make early payment.

Effect on Your Credit Rating 

Trade credit can end up hurting your business credit rating if you continually make late payments to your suppliers. They might report your payment history to credit bureaus, and your business credit score can suffer as a result. This would make it difficult or even impossible to get a business loan for growth or in an emergency.

Only engage in trade credit if you're absolutely sure that you'll be able to honor all the supplier's terms and conditions.

Cash Flow Difficulties

Some businesses do well during different seasons, then business declines at certain times of the year. Your supplier doesn't care whether your business is booming or recessing. He just wants you to make your payments on time.

But paying for products can be a hard nut to crack when business is slow unless you carefully plan ahead. Otherwise, you might have to resort to business or personal credit cards or apply for a business loan from another source to pay your vendors, and this can be the start of a financial crisis. It's never advisable to take out a loan to pay another loan. Be sure you're able to pay your vendors during both boom and recession periods.