This article continues the discussion of my previous post, "The Questionable Practice of Extending Original Equipment Manufacturer Payment Terms," which expanded on an article I wrote for IndustryWeek on OEM Payment Terms, “Extending Payment Terms is Just Another Term for Pilfering.” While my previous article for MakeTime was written from an OEM perspective, this one is written from a supplier point of view.
Being on the Payment End of Extended Payment Terms
If you follow trends in purchasing you’ll know that there are now service provider firms that preach to OEMs to “manage supply chains to finance the business.” If you align with this thinking I guess the ultimate gold ring relative to Payment Terms would be the OEM getting paid by its’ customers prior to having payed its’ suppliers. What these service companies are really pitching is that they will manage an OEM’s payments-to-suppliers for little or no fee if they are allowed to set supplier Payment Terms. Sound like a pretty good deal for the OEM, doesn’t it? At least, if you are an OEM who prefers a hands-off approach to managing your supply base.
What these service companies do is extend Net Payment Terms to outlandish figures such as Net 120 (days) and then offer reduced payments to suppliers that want to be paid more quickly. For instance, under this scheme, to receive payments in Net 30 a supplier would have to be willing to accept a discount from the contracted price — with the service provider pocketing the difference. If a supplier refuses a discounted price that’s “ok”, too, since the service provider will then have the supplier’s money for 120 days and can invest it to realize revenue. And believe me, both the OEM and its’ service provider have higher powered legal teams than most suppliers can afford should they decide to litigate the newly imposed terms.
The Reality of Playing Games with the Payment Process
During my consulting days I was involved in a three-year engagement with a Fortune 100 OEM. Our focus was on evaluating and revamping that firm’s Supplier Development function. It was a successful engagement. However, the work was almost stillborn due to an issue involving Payment Terms.
I had just finalized a one-year contract with the OEM mentioned above and while I wasn’t opening up a champagne bottle to celebrate, landing an account like this represented a big deal for an independent consultant. The agreement included Net 30 Payment Terms. A week or so after this I got a call from a company I had never previously heard of who said that they were the “bill paying arm” of my client. They went on to ask under what terms I wanted payment. I was surprised by this question since the agreement with the OEM had been based on Net 30 and hadn’t included any conversation regarding getting paid by an outside third-party.
I was even more surprised when this firm told me Net 30 was only available for a 15% discount from the agreed upon pricing. I said that wasn’t the deal and I wanted full price. He said, then, that I could expect payment in 120 Days. I responded that this wasn’t in line with what our client had agreed to with me and if full price Net 120 was their last offer I’d be calling the client and canceling our contract. The contact on the phone was a bit flustered at me saying this — I suspect most suppliers toed the line one way or another on such demands – but I told him that was my final position and hung up.
I telephoned my contact at the OEM and explained what had happened. I told them that if this was how they were going to operate I’d walk away from the contract since it was not what we agreed to. The contact said they didn’t want this to happen and lo-and-behold I received a check for the full amount within two weeks.
What was the result of the three-year engagement with this OEM? It was not only successful, the results received national visibility. Our client was subsequently invited to a White House Summit on OEM-Supplier relationships as a keynote speaker. At it, the company announced the following:
XXX is announcing the permanent expansion of a Supplier Development program that utilizes Manufacturing Critical-Path Time (MCT) analysis to expand business opportunities. Previously a two-year proof of concept pilot, where participants teamed with xxx advisors to use MCT data to target investments in new equipment or technology, the program offers support and strategies designed to help small suppliers achieve the highest impact business improvements for innovation, competitiveness and manufacturing efficiency via MCT reduction. Participants achieve 10-50% growth in sales volume, from XXX and other customers, and the scale-up of the MCT program will enable small suppliers to realize greater flexibility, accuracy to demand, and cost savings within 12 months.
My point is that no one involved would say that the consulting engagement with that OEM wasn’t wildly successful. Yet it almost died because of games the OEM was playing regarding payment process.
Bottom Line? Suppliers Have Leverage, Too.
Suppliers can find some important takeaways in this situation and the one I discussed in the IndustryWeek article, including:
- When OEM’s unilaterally change Payment Terms, they are, in effect, immediately cancelling existing contracts. What that means is that the supplier is no longer obligated to hold up their end of the agreement relative to production and other types of support.
- Suppliers consequently have a decision to make regarding upsetting their OEM business relationship. Threatening to withdraw from a contract can have consequences. In fact, the closer a source is to supplying a commodity, the higher the risk of losing that OEM’s business. But, as in my anecdote, if you provide your clients with engineered product and/or services, the client may not be in a position to make an immediate sourcing change.
- As a supplier, if your OEM customer wants you to maintain their support as per the extended terms you, as the supplier, have every right to recalculate your piece-price relative to them. If the OEM balks at this and won’t change either pricing or their new extended terms then you are either stuck with the new financial circumstances or need to transition out of working with that OEM. If the OEM gets enough suppliers deciding to walk they may decide to rethink their change in terms.
The above is one reason why suppliers shouldn’t have too much reliance on any one customer unless the business is bound by an iron-clad contract, especially payment terms. Without these types of boundaries the supplier can be left with almost no leverage and will probably yield to the OEM’s new terms, possibly at a detriment to itself. The IndustryWeek article I cited in the front on this column gives an example where a supplier understood that they, too, had leverage and used it to get the OEM to honor the agreed upon terms. OEM customers aren’t the only ones capable of calling the shots.
If you are a supplier worried that you may have too much reliance on any one customer, but don’t have the marketing wherewithal to diversify, I recommend connecting with MakeTime. One of their strengths is assisting both OEMs and suppliers find new business partners. MakeTime does act as a service provider relative to OEM payments, but they do so in an Honest Broker role and most payments are paid immediately upon receipt of an OEM’s acceptance of a delivery.
My next article will discuss performance metrics and goals.
Learn more about Paul Ericksen and his over 40-years in the manufacturing industry here.