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They say that cash flow is king when running a business.
Having cash in one's hand eliminates the risk of non-payment or late payment.
Having cash in one's hand also allows one to pay off his own debts sooner and to enter into negotiations with a greater degree of bargaining strength.
Because cash is so important, many businesses will offer discounts to customers who pay early.
For instance, a company may bill a customer $500, but then promise to knock off 3% if payment is received within 5 days.
This is all well and good, but how should this practice be noted in a vendor's financials?
There are two accepted methods:
- Gross Method - Record the sale as if no discount will be taken
- Net Method - Record the sale as if a discount will be taken
The vendor will deal with a customer payment differently, depending upon which method has been chosen and whether the customer pays his bill early.