Early Payment Schemes (EPS) have been with us a while now, on the face of it they sound great, who doesn’t want to be paid early, right! But is anyone actually getting paid early? The Prompt Payment Code highlights that 95% of all undisputed invoices should be paid within 60 days and the Government is targeting 30 days on public projects but most EPS charge for payments made in less than 120 days. In essence this means that many in the supply chain are being charged for payment that is not in fact early at all, but merely in line with what should reasonably be expected. As a practice this is inherently wrong.
To make the EPS work the Main Contractor enters into an agreement with a funding bank. The bank is prepared to advance the funds to the supplier, based upon a “promise to pay” by the Main Contractor, the payment certificate. This means that the Main Contractor is no longer paying the supply chain out of their own pocket, rather they are using a line of credit from the bank to do so. Great on the face of it, the Main Contractor’s Operating Working Capital is improved and the supplier is paid on time (early sic), until you consider that the supplier is having to pay for the privilege. After 120 days the Main Contractor pays the money to the lending bank at which point the debt is settled.
However, the problems don’t stop there. Strip away the hype and you are actually looking at a deeply unethical approach to payment, with considerable risks to the supplier. Whilst the Main Contractor is taking out a loan to pay the supply chain, the supplier is saddled with the liability to repay should there be a problem.
It’s like buying a car with a bank loan then halfway through telling the dealer that you have gone bankrupt and that they will have to pay the loan back because you can’t but that you will be keeping the car.
When Carillion went to the wall – no longer able to honour its payment certificates – the lending bank looked immediately to the supply chain to repay the now unsecured loan.
Surely EPS practises are also just reinforcing traditional construction industry business models whereby main contractors rely upon supply chain financing. How can suppliers invest in apprentices, for example, or other capital projects, when money is tied up for 120 days? The alternative is to get the cash earlier but with margins reduced or wiped out by the financing fee.
On the very odd occasion that a supplier decides that it would be beneficial to make use of an EPS (most likely when he is desperate for the cash to survive) the lending bank must have a duty of care, which it currently does not, to properly administer the account and remain vigilant to the financial position of the Main Contractor, which may be substantially more fragile than its size suggests.
Many businesses in the industry, Main Contractors included, are now required to report on their payment practice, including number of days for payment, that are searchable on the GOV.UK website. What is needed is for Clients to effectively stop Main Contractors using these schemes and to use the available information to reward prompt paying contractors that will allow the cash to promptly and properly flow through the supply chain.
Author: Mark Sheridan, Commercial Committee Chair