Cash flow is essential for any small business and can be the deciding factor between success and failure.
In this article, we look at how you can improve your cash flow using invoice payment terms. These are the terms that any business sets to get paid and, if done properly, can help ensure a healthy, steady flow of incoming revenue.
Putting it in more technically, John Edwards, CEO of The Institute of Financial Accountants, says: “Invoice payment terms are the mechanism by which you can convert your goods or services into income within the business, building cash reserves that allow your business to thrive."
Let’s look more closely at how payment terms can support your business in more efficiently managing cash flow and cash flow forecasts.
What are invoice payment terms?
Invoice payment terms are contractually agreed terms of payment between a business and their client that refer to when payment is due based on when products or services were provided, or when an invoice for those products or services was delivered. This means they set out an expectation for how and when your business expects to be paid.
Different businesses issue different types of invoices and have varying expectations of the timescales over which they get paid, resulting in several common kinds of payment terms.
Common examples of payment terms for invoices
Net (no. days)
For UK businesses, standard payment terms are 30 days which is known as net-30. This indicates that payment is due 30 days from the date shown on the invoice. Other common forms include net-10, net-15, net-30, net-60 and net-90. Payment terms vary for lots of different reasons. It might depend on the size of a business, for example, or the type of product being supplied or manufactured.
End of month (EOM)
Another invoice payment terms example is EOM, which means payment is due on the last business day of the month.
21st of the month following the invoice (21 MFI)
Payment is due on the 21st of the month following the invoice date. There are also variations of this concept pertaining to the date in the month: 15 MFI, for example, meaning payment is due on the 15th.
Upon receipt
Payment is due immediately upon receipt of an invoice. This might be used more by a business that would like a guarantee of payment before starting work on a project, like a service-based business, for example. Immediate payment is also preferable for any business that wants to free up its cash flow sooner rather than later.
Why are payment terms important?
A business survives and thrives based on cash within the business, which determines its ability to pay suppliers, purchase goods and services, hire staff, make capital investments, expand, satisfy shareholders and have enough of a buffer to survive market shocks, says Edwards. The longer a customer takes to pay you, the more vulnerable your business becomes, he notes.
“What’s more, theoretically, invoice terms provide a business with cash flow forecasting insights,” Edwards continues. Businesses can map orders against expected completion dates and agreed-on invoice terms, to extrapolate anticipated income. However, invoices aren’t always paid on time so this needs to be considered in forecasts.
Ultimately, invoice payment terms give you visibility on when you can expect money to come into your business and therefore if and when you can pay for new equipment, invest in new projects or make new hires. At the same time, they also set the expectations of your clients by outlining when you expect to be paid and any penalties for late payments.
How to use payment terms
Payment terms are most commonly agreed at the point of contract development or renegotiation, Edwards notes. They should always be set out and agreed upon before providing any goods or services, to ensure that you are paid, and they may change over time as your relationship builds with your clients, he continues.
For example, some business relationships might start with payment in advance, before moving to a 14-day or 30-day payment terms. But others may start with 30-day terms but change to payment in advance, if it becomes apparent that a client is poor at paying or if their credit rating becomes unstable, says Edwards.
“We invoice all clients as we commence activity and request for all to pay us via our recurring payment solution when they sign their original agreement,” says Hannah Haffield, director at Make More Noise, a Public Relations agency. “This ensures we receive payment on the same date each month while reducing administration time and costs for both us and the client.”
How to set up effective payment terms
Avoid abbreviations
Avoid abbreviating your payment terms as these are not always known by a company. Instead, spell out your payment terms and expectations as clearly as possible. For example, instead of ‘net-7’, write: ‘due in seven days’ or ‘please pay within seven days’.
Use professional wording
An invoice is sometimes the last contact you have with a client. It, therefore, needs to be clear, concise and polite. Ensure important details, including payment terms as well as bank account details are visible and easy to read and include friendly wording such as ‘kindly pay your invoice within,’ ‘please make the payment on time’ or ‘thank you for using our products’.
Shorten payment terms
Consider shortening the invoice term to help you get paid in a more timely manner. “The longer your terms, the longer your cash stays with your customers and not your business, and the more vulnerable it becomes to potential customer failures such as insolvency,” says Edwards.
Invoice faster
Aim to send invoices as soon as you can. “We used to invoice clients as we finished their monthly activity,” says Haffield. “However, this created more of a challenge for cash flow, particularly if some clients didn’t pay us on time, hence we moved invoicing to the start of the monthly activity,” she adds. “This has proved better for cash flow forecasting and management.”
Invoices are not always paid on time no matter how effective your payment terms are. However, longer payment terms are often preferable, which is why the American Express® Business Gold Card gives business owners up to 54 days¹ to repay, providing greater control over cash flow so that expenses can be paid later if a client misses an invoice.
Send payment reminders
Haffield says Make More Noise sends automated reminders just before and when invoices are due, to help give clients a friendly nudge. Late payments are then followed up with telephone calls and ‘remaining persistent’ until payment has been received. Haffield also notes that invoicing is managed externally by an accountant which helps to ensure that the team can maintain a ‘positive relationship’ with the client.
Use a template
Speed up the invoicing process with a clean and consistent template that you can personalise and use for all your clients. If you send recurring invoices to a client, it might be worth automating this using invoicing software.
“Many businesses feel uncomfortable discussing payment terms, but my advice is to recognise their value, and their ability to change,” Edwards muses. “Payment terms can be renegotiated, yet many businesses opt not to change them despite the obvious benefits.”
1. The maximum payment period on purchases is 54 calendar days and is obtained only if you spend on the first day of the new statement period and repay the balance in full on the due date. If you'd prefer a Card with no annual fee, rewards or other features, an alternative option is available – the Business Basic Card.
