Vendor finance options are changing in the cloud era as customers demand more flexibility.

September 21, 2017

10 Min Read

By Derek Handova

Many cloud and other technology companies host vendor finance solutions in-house, at least for their best customers. Some solutions carry such a high price there’s no other way. But these are contracts spread over years. Even then, traditional terms of net 30 apply—the customer will pay the current invoice installment within 30 days. In the past, to go beyond 30 days to pay an invoice was a signal something was wrong operationally or structurally in the customer finance department. But is that concept now mostly applicable to the first wave of IT innovation, from the IBM PC to the early internet (for example, Netscape and Sun Microsystems)?

“There is a misconception that most delinquent customers are deadbeats or have shaky finances,” says Patrick West, founder and CEO, Be The Machine, an experiential marketing agency that conceptualizes and produces customer experience for clients like MailChimp and Comcast. “In our industry, the largest, most profitable companies take the longest to pay.”

But what about when customers regularly stretch paying vendor finance to 60 or 90 days? At 90 days, accounts receivable can be sent to collections. What if it’s regular business practice for these customers to be past due?

“After the recession, major companies put in policies to take 75-plus days to pay suppliers,” West says. “It was a move to keep money as long as possible. The larger the customer, the more likely they are to have procedures that make it near impossible to get paid in a timely fashion.”

Longer Vendor Finance Cycles Hurt Provider Cash Flow

Not only does longer vendor finance payback hurt solution provider cash flow, but it also raises cost of goods sold. That has to be spread over “good” customers.

“The reaction from late payments can be that the supplier increases prices of goods sold to his customer,” says Oliver Belin, CMO, TradeIX, and author, Supply Chain Finance Solutions. “The result can be that the supplier stops supplying his customer or goes bankrupt because of inadequate liquidity.”

In the past, some vendors would refuse to do further business with these customers. Or they would only take credit cards and no longer accept a purchase order as a valid promise to pay.

“Late payment can negatively affect the supplier-buyer relationship, and, in worst cases, vendors will stop supplying the customer,” Belin says. “Such scenarios depend on different factors, like the individual relationship, buyer or supplier leverage, and options to sell to other customers.”

Unfortunately, habitually late payments, even while detrimental to vendor finance and business operations, have become normal business practice for some customers.

“Contract life cycle management is critical, and baked-in safeguards must be considered by all parties to protect vendors from dealing with these unfair demands,” says Denise Lage, senior vice president of global strategic alliances, Yorktel, global provider of cloud, UC&C and video managed services for large enterprise customers.

But subscription model, consumption-driven service agreements can offset risks of delinquency, according to Lage. That’s because the customer is automatically billed each month and can make payments via credit card payment networks.

“In today’s as-a-service, consumption-based economy, it is table stakes for vendors to offer both subscription and financing options,” Lage says.

Some Cloud and Tech Companies Don’t Vendor Finance

As the third-longest economic expansion in U.S. history that began under President Obama continues, companies like Salesforce, Amazon Web Services and Google have gained enormous market power over customers. And some of these computer, software and enterprise solution providers have gotten tough with customers and do not offer vendor financing, according to some industry insiders. With the trend set, smaller competitors have begun to follow suit.

“A common problem among companies is arguing with customers about invoices,” says Trave Harmon, CEO, Triton Technologies, a managed IT services provider. “So we consulted major industry players such as Apple, Microsoft and GoDaddy and asked what they do for invoices. We got the same answer every time: They don’t. Customers of those companies must pay upfront or have a payment method on file. It’s similar to purchasing a domain and paying for it immediately. All services must have a payment method attached to be active. We give the customer 21 days in case that payment method fails, then we shut off service.”

And this is not a recent trend, with Triton having done away with invoices “years ago,” according to Harmon. Apparently, it can be a successful strategy, at least for an industry-focused solution provider.

“The days of an MSP mailing invoices are gone,” Harmon says. “At any given time we don’t even have a combined three-digit outstanding balance with any particular customer.”

Vendor Finance Third Parties Help Customers Buy Big

If a technology acquisition has a very high upfront cost, there are a number of vendor finance options IT companies can employ to make it possible for customers to purchase, according to financial experts. These can include the vendor self financing the infrastructure portion of a purchase in house if there is plenty of access to capital. However, the vendor would have to recognize the revenue over time due to the nature of the deal and accounting rules. Another vendor finance option for customer and solution provider involves using a third party to supply the funds to close the transaction.

“Vendors have the option of working with a finance company to enhance their master services agreement (MSA) by embedding language that will allow the MSA to be ‘bankable,’” says Scott Sullivan, senior vice president, Ampil, which provides custom vendor finance programs for technology manufacturers and MSPs. “If the vendor wants a finance company to step in and pay for infrastructure, the MSA will need to be strengthened to ensure the lender has a certainty of repayment. The vendor would be paid upfront, thereby recognizing hardware revenue.” 

Customers acquiring technology from a solution provider can use a vendor finance company to provide financing that would allow the customer to pay for the solution over a period ranging from 24 to 60 months, according to Sullivan. As a result, the solution provider receives cash up front from the vendor finance company.

“Every vendor approaches extended terms differently based on its own financial condition and access to capital,” Sullivan says.

Per-use Tech Services: a Vendor Finance Alternative

Leading tech companies constantly drive to be more flexible—in terms of mobility, agility, platform integrations and deployment. They also need to follow that up with flexible vendor finance terms, according to industry veterans.

“Some organizations offer subscriptions and leases, but this can lead to companies overpaying for IT,” says Jennifer Gill, vice president, content marketing, HyperGrid, provider of public cloud services delivered as a full stack data center appliance. “If the customer uses less storage, less processing power or doesn’t deploy all the software licenses, the price stays exactly the same. The bill is not adjusted down when using less. However, if more processing power, storage or software licenses are needed, the bill will most certainly go up.”

As an alternative to vendor finance solutions, leading IT companies really trying to meet the needs of today’s technology demands will offer pay-per-use pricing, according to Gill. Then the bill reflects exactly what information technology resources have been used.

“If more virtual machines (VMs) are running, the bill goes up; if fewer VMs are running, the bill goes down,” Gill says. “And if more resources are needed, they are immediately available to meet changing business requirements and accelerated timelines.”

With pay-per-use, customers get flexible OpEx that’s much easier to manage, according to Gill.

As-a-service Business Model Comes to On-premises

While the concept of as-a-service may be mostly in the context of pure-play cloud computing, it is also finding application in on-premises hardware. Things seemingly as mundane as networking equipment can be utilized this way.

“Our router-as-a-service model has a small monthly fee, instead of an upfront purchase price, to get the unit in the customer’s location,” says Jay Akin, CEO, Mushroom Networks, a network router provider. “And we provide additional services, such as support and bonding service, all included in that monthly fee. It is similar to the SaaS model, however, since there are upfront costs to Mushroom Networks involved. Essentially, we vendor finance equipment for our customers and partners.”

For example, MSPs can get Mushroom Networks routers on the monthly recurring cost basis. They then provide the routers in the offering to their end customers, which might be a business with several offices.

“Instead of purchasing equipment up front, now they will be billed a small monthly fee for all the routers and associated services,” Akin says. “In effect, as a vendor we have financed our partner MSPs to pass this service onto their clients.”

Other Vendor Finance Options: Factoring, Capital Leases

For customers who no longer have good credit, interest rates to borrow may be too high or they may not be able to obtain credit. In these situations, customers might turn to vendor finance options that have been commonly found in the garment and reprographic industries but not as often in technology sectors. Though fairly rare, vendor finance options like factoring and capital leases may offer answers when choices narrow.

“Vendor financing is often a requirement because of a lack of financing and to enhance the security of the buyer,” says David Barnett, a financial consultant who used to work for American Express helping companies finance receivables, which is also called factoring.

And while factoring as a form of vendor finance does not directly help the customer, it can help the solution provider turn unpaid customer invoices into cash–but at a cost. They have to sell the account receivable at a significant discount to the list price of the invoice.

“In receivables financing, also called factoring, the service provider sells the receivable to a third party vendor finance company called a factor,” Barnett says. “The factor gives an advance, typically 70 to 80 percent of the face value of the receivable, and the customer pays the factor instead of the service provider.”

According to Barnett, the advance is given up front and the balance is paid once the customer pays the bill. The cost of factoring is usually around 3 percent for 30 days, he says.

On the other hand, many CFOs will be familiar with capital leases from their times dealing with Xerox, Canon or other photocopier vendors. This familiarity may make companies more comfortable with pulling the trigger on that type of vendor finance structure for big-ticket items.

“Under a capital lease, the financier owns the merchandise—has title to the goods—being used until the last payment is made on the lease,” Barnett says. “This is called a payout and is often for a nominal sum such as $100. Capital leases are popular particularly when the borrower has lower creditworthiness. And because the financier owns the item, they can simply go get it if payments are not made.”

Fire Customers for Abusing Vendor Finance Privileges?

Ultimately, bad vendor finance experiences with customers can lead solution providers to make a fateful decision. Sometimes they will have no choice but to “fire” a customer. Always to be taken seriously, vendors should try to keep it all about business and never get into emotions or personalities.

“Because of our onboarding of customers, including a credit check, the firing process is fairly straightforward,” says Mickey Swortzel, CFO, New Eagle, a designer and builder of electronic controls. “Minor violations of established terms are communicated by the department supervisor to the customer. Continued lateness is accelerated to the finance person and handled with calls to the customer finance team. We don’t make the decision lightly and work with customers as long as possible, but at some point, we have to ask customers to find another vendor.”

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