Trade credit

Trade credit is an agreement with a supplier that lets a business receive goods or services now and pay for them later, within an agreed period. For example, a supplier might offer 30 days to pay. It is a short-term source of finance because the amount owed is normally cleared within a year.

Advantages

Trade credit helps cash flow. The business gets stock without paying straight away, so it can sell the goods and collect cash from customers before the supplier's bill is due, which reduces the risk of a temporary cash shortage. If the business pays within the agreed period it is usually charged no interest, so trade credit can cost less than borrowing the same money from a bank for a few weeks.

How it works in practice

Imagine an independent hardware shop orders £1,200 of paint, brushes and tools from a wholesaler on 30-day terms.

The shop does not need to find £1,200 on day 1. By day 30, sales of the stock should have brought in enough cash to pay the supplier.

Drawbacks

New or small businesses may find trade credit hard to obtain. A supplier may worry that a business with little trading history cannot pay, so it may ask for payment up front or offer a shorter credit period. Trade credit is not a bank loan; it depends on the supplier's trust and on the terms it sets.

Paying late can damage the relationship with the supplier. The supplier may refuse future credit, demand cash on delivery or stop supplying altogether, which could leave the business short of stock.