Receiving discounts from suppliers for early payment is nothing new. Suppliers often offer general early payment terms, e.g. a standard 2% discount for payment in 10 days. What is new about Dynamic Discounting, also known as Early Payment Discounting, is that it is a buyer driven process that allows buyers and sellers to dynamically change the payment terms for early payment. Discounts for early payment do not have to be negotiated in advance or apply to all invoices, instead discounts were only taken when the buyer had the cash to pay early and the supplier needs the cash flow. Today some Dynamic Discounting platforms also provide the option for a financial institution to fund the early payment. For suppliers it can minimise the need to utilize high-cost financing options such as factoring (costing 10-25%), credit cards (some 18% APR), purchase card (2.5% fee) or bank asset-based lending.
In Dynamic Discounting the buyer funds the early payment from their own liquidity. A platform is required which approves invoices quickly, so there is time for early payment and to provide an easy to use mechanism for offering the discount to the suppliers, see figure.
Dynamic Discounting Opportunity
There are two types of Dynamic Discounting platform:
- standard Dynamic Discounts platforms which offer discounts direct to each supplier
- auction based Dynamic Discounting platforms in which suppliers to compete for early payment.
Auction Based Dynamic Discounting
In auction based Dynamic Discounting the buyer uploads the payables they want to offer for early payment onto the auction portal, then, using the auction system; they invite the company's suppliers to take part in a 30 to 45-minute auction. Participation is optional. Those suppliers taking part gather online at a set date and time and enter the percentage discount they are prepared to offer for early payment. The system indicates to each supplier the risk of their being out bid, and they have the opportunity to increase their original bid. The buyer is shown all the bids as both a percentage discount and an APR discount based on the number of days the invoice will be paid before the scheduled time, and if the bids are attractive the buyer has the opportunity to increase the amount of cash available for the auction. At the end of the designated time the buyer chooses which discounts to accept in return for early payment.
There are benefits for both buyers and suppliers in Dynamic Discounting, which can be taken when appropriate, not all the time. Buyers using Dynamic Discounting are making 10%+ and more return on their cash when paying early, while suppliers are reducing the working capital, they require.