While float has minimal value in today’s interest rate environment, it’s a good time for AP teams to focus on strategic improvements to their function.
Cash is critical for every enterprise. One of the time-honored principles of managing cash flow is to speed up collections and slow down payments. It makes sense to make payments no sooner than you have to, unless there’s a benefit such as a discount for early payment.
Accounts payable (AP) teams have historically used check float to slow down payments, but with today’s low interest rates and fast processing times, the financial advantages of check float have all but evaporated. Some companies have turned instead to credit card float. However, low interest rates undercut the potential financial advantage of this strategy as well. For example, at current rates, losing the interest earnings from 14 days of float on a $3,000 payment amounts to $0.58 — $3,000 × 0 .50% × (14 ÷ 365). Even for a company that borrows working capital at prime plus 1 percent, that’s still just $4.89 on the same payment — $3,000 × 4.25% × (14 ÷ 365).
Why, then, does the attachment to float persist? One reason is that the strategic importance of managing float was drilled into every accounting graduate’s head for about 30 years. Most treasury professionals realize that the benefits are less compelling in low-interest-rate environments, but they might feel negligent in their jobs if they didn’t try to optimize the timing of payments. Another reason is the enduring appeal of using other people’s money. Float is basically cash you don’t have to come up with right away, and that seems strategic.
While extending the length of time before a company makes each payment is desirable in theory, it shouldn’t always be the highest priority for an AP function. Financial technology companies, or fintechs, are reinventing every aspect of consumer payments, and the same kind of innovation is happening in B2B payments. What’s more important today is using new technology to streamline AP workflows, and eliminate paper payments and the manual work and costs associated with them.
Here are six payment-related initiatives AP should focus on that are more strategic than maximizing credit card float:
Cash rebates make a big dent in the value of float and maximizing rebates should be the number-one goal of every card payment program. But not all card programs are created equally. The first step in maximizing rebates is to optimize the terms of the card program.
Obviously, every company wants to receive the highest percentage rebate possible, but high rebate percentages often come with high minimum-spend thresholds, and may only pay rebates annually. Organizations that don’t meet the threshold don’t earn any rebates at all. To maximize card rebates, look for a program where your company will earn rebates from the first dollar spent and receive rebates on a monthly basis. The trade-off for receiving monthly rebates may be slightly reduced float time, but a rebate paid out monthly provides faster access to the cash.
The second step in increasing card rebates is to ensure your company is paying as many vendors as possible by card. Not every vendor will accept card payments, but efficient companies aim to make between 20 percent and 25 percent of all payments via credit card.
Continuing vendor enablement is the key to getting to—and maintaining—that level of card acceptance. Vendors are always changing what types of payments they accept, but AP isn’t always able to keep up with those changes. Fintechs combine human service representatives with cloud technology solutions to offer clients a two-pronged approach for detecting changes in the types of payments each of their vendors is willing to accept, and updating records in real time. Many companies can double their rebates if they engage a provider of these types of vendor enablement services.
A thorough and continuous vendor enablement program can also help a company increase the number of vendors it pays by ACH. With per check processing costs estimated to be anywhere between $4 to $15, a reduction in the number of checks the organization is writing might have a much bigger positive impact on cash flow than check float would.
Even vendors that won’t take cards may take ACH payments instead—and paying by ACH is better than paying by check. Many suppliers actually prefer ACH over check payments, but they continue to accept checks from customers that have not reached out to discuss payment options. Companies that can optimize credit card and ACH to get to 70 percent electronic payments—a very achievable benchmark with today’s technology—can cut accounts payable processing costs by about 75 percent.
One of the ironies of electronic payments as we’ve known them has been that if companies had just stayed with checks, they would only have had just one workflow to manage. Check, ACH, and card programs offered through banks have historically been sold as separate solutions and each has to be administered separately. What’s more, the only part of bank programs that’s truly electronic is the transfer of funds. There’s a lot of manual work AP has to do to get the information out of the accounting system and into the right file format for the bank to be able to move the funds electronically.
If you were going to design the payment process today, you would use technology. You’d create it so any type of payment could be made straight out of whatever accounting system you have, simply by pressing ‘pay’ in the payment interface. On the back end, the technology would route the payment by the most advantageous means—first card, then ACH, and then check when neither of those are possible. This is exactly what today’s fintechs are doing: Providing a single automated workflow for all payment types, including ACH, card, and check payments, as well as cross-border payments.
For companies managing cash tightly, electronic payments are brilliant. They offer great precision and control over exactly when a disbursement takes place. Payees have the ability to hold funds until the last moment they are due, knowing payment will arrive instantly. When you combine all your payments in one interface and put them in the cloud, you have control and visibility into all payments in flight from one place. With real-time reconciliation, the bank balance a corporate treasurer sees is always accurate, something that can’t be achieved with float.
Accounts payable teams spend quite a bit of their time resolving payment-related errors and disputes. Although the proportion of disputed payments tends to be small, tracking down and correcting errors for these transactions takes a disproportionate amount of staff time. This is another area in which cloud payment solutions can be enormously valuable. Both payers and payees can view and track all payments, drastically reducing the need for AP to field vendor follow up calls. Modern technology can help AP detect and reduce errors on the front end, and service representatives can resolve errors on the back end. Payment support is often underappreciated but a key efficiency boost to any payment solution.
Reverence for float has been with us for a long time, but the value of both check and card float has eroded in the current economic climate. With the availability of cloud electronic payment solutions, it’s time to focus AP on more strategic success factors. In addition to increasing rebates earned and improving the precision of payment timing, companies can lift the burden of repetitive manual work off of AP, freeing up staff for higher-order tasks such as improving real time cash forecasting, dynamic discounting and delivering insights through analytics. Now there’s an idea worth floating.
**This article originally appeared in Treasury & Risk: The Future of Finance Today.