It also examined why the solutions enacted thus far have proved ineffective. To do so, it looked at the level of the individual firm to investigate the manner in which trade credit was negotiated and controlled.
Trade credit is an essential element of the working capital or ‘cash conversion’ cycle. Its use in the UK is significant: around 80 per cent of business-to-business transactions in the UK are undertaken on credit and it constitutes about 37 per cent of total business assets.
Existing research on trade credit is not extensive and is largely quantitative, producing valuable statistical information. Using such data, researchers globally have pointed to the significant benefits that the strategic use of trade credit can bring for suppliers and customers alike. These include superior cash flow management, a source of finance, cost reduction, the building of stronger supply chains and the provision of important sources of information and signalling.
Nonetheless, trade credit exposes suppliers to significant default risk and SMEs are particularly vulnerable, by virtue of their size, if customers pay late or not at all. Given the prevalence of SMEs in the UK and their role as an engine for growth and job creation, this is an obvious matter of concern.
SME lobby groups consistently maintain that the root cause of many of those firms’ problems in terms of financial stability is their late-paying larger customers. To date, the policy and professional response to this risk has been to enact legislation to increase disclosure of large companies’ payment trends and to enable firms to charge late payers penalty interest.