Trade Credit
Trade credit is a business-to-business (B2B) agreement in which a customer can purchase goods without paying cash up front, and paying the supplier at a later scheduled date. Usually, businesses that operate with trade credits will give buyers 30, 60, or 90 days to pay, with the transaction recorded through an invoice.Trade credit can be thought of as a type of 0% financing, increasing a company’s assets while deferring payment for a specified value of goods or services to some time in the future and requiring no interest to be paid in relation to the repayment period.
Trade Credit
Definition
Trade credit is a B2B agreement where customers can purchase goods without paying cash upfront and pay the supplier at a later agreed date. Typically, businesses using trade credit will give buyers 30, 60, or 90 days to make the payment, and the transaction is recorded through an invoice. Trade credit can be seen as a 0% financing method, allowing the deferred payment of goods or services without interest during the repayment period, thus increasing the company's assets.
Origin
The origin of trade credit can be traced back to ancient civilizations, where merchants used to trade on credit. As commercial activities became more complex and globalized, trade credit evolved into a common financing tool among modern businesses. The Industrial Revolution in the 19th century and the expansion of global trade in the 20th century further propelled the development of trade credit.
Categories and Characteristics
Trade credit mainly falls into two categories: open account and promissory note financing. The open account is the most common form, where the buyer pays within a certain period after receiving the goods. Promissory note financing involves the buyer issuing a note promising to pay a specific amount on a future date. The open account is simple to operate and suitable for long-term business relationships, while promissory note financing offers higher security but involves more complex procedures.
Specific Cases
Case 1: A small retailer purchases goods worth 100,000 yuan from a wholesaler, who gives the retailer a 60-day payment term. The retailer sells the goods and generates cash flow within these 60 days, then pays the wholesaler on the due date. This way, the retailer alleviates cash flow pressure without paying upfront.
Case 2: A manufacturing company procures raw materials from a supplier with a 90-day payment term. The manufacturing company uses this period to process the raw materials into finished products and sell them, completing the production and sales cycle without incurring additional financing costs.
Common Questions
1. What are the main risks of trade credit?
The main risks include the buyer failing to pay on time or defaulting entirely, which can cause cash flow issues for the supplier.
2. How to manage trade credit risks?
Risks can be managed through credit assessments, setting credit limits, requiring guarantees, or insurance.
