In an effort to more efficiently manage working capital, some companies may continue to extend the term of their trade payables. This is often done concurrently with the establishment of a program with a bank (or other financial institution) that serves two purposes: (1) to act as the company’s paying agent and pay the company’s vendors on its behalf on the date the payables are due; and (2) to provide liquidity to the company’s vendors seeking payment before the due date (i.e., factoring or discounting programs).
Vendors seeking to participate in factoring programs may sell their receivables from the company to the bank before the contractual due date. In exchange, the vendor will receive the stated invoice amount, less a discount. That discount represents interest income the bank will earn in exchange for holding the receivable until its contractual payment date.
The form of such programs, which are often referred to as “supply chain finance arrangements,” “structured payables,” or “paying agent arrangements” vary, with each designed to address the specific business objectives of the parties involved.
Whether the trade payables in these programs remain trade payables or should be reclassified as short-term bank debt is judgmental and not directly addressed in U.S. GAAP. The principles applied when analyzing such arrangements are based on financial instrument derecognition guidance and past SEC staff speeches.
The devil is in the details! Structured payables may contain provisions that appear innocuous, but could require a company to reclassify its underlying obligation from trade payables to short-term bank debt. This could have an adverse impact on the company’s debt covenants and leverage ratios. Additionally, it can impact the statement of cash flows, as payment of the obligation would be reflected as a financing outflow rather than an operating outflow.
As companies seek to implement these types of arrangements, and determine if reclassification of the payable as debt is required, they should carefully consider whether:
Let’s look at each of these more closely.
When evaluating trade payable terms, a company should consider whether it obtained additional rights that are atypical, relative to industry standard terms and the company’s other payables. Additionally, it should consider if it made commitments to the vendor that are not typical of a trade payable. Either could require the obligation to be classified as short-term bank debt.
Examples of such terms that may require reclassification to short-term bank debt include:
The inclusion of certain provisions could alter the economics of the payable so significantly that it may be presumed, from an accounting perspective, that the original obligation has been extinguished and a new obligation has been created. In such cases, it is important to carefully assess whether the modification resulted in a change to the nature of the trade payable that requires reclassification as short term bank debt.
Examples of provisions that may change the nature of the trade payable include, but are not limited to the following:
Structured payable arrangements continue to grow in popularity, and companies should consider actively involving accounting and finance specialists before agreements are finalized to better understand the financial reporting implications.
For more insights on structured payables programs, please contact your PwC advisor.
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Partner, Deals, PwC US
Director, National Professional Services Group, PwC US
Manager, Deals, PwC US