Discounts are offered by sellers of goods and services to incentivize buyers and speed-up the cash collections process. Trade and cash discounts each have advantages related to generating revenue and enhancing cash flow. Below are the differences between these techniques and how they impact the bottom-line.
Trade Discount Definition
Sellers in business-to-business transactions will offer discounts to clients based on a variety of factors, such as purchasing volume and repeat business. These types of incentives are referred to as trade discounts, and they play a large role in winning clientele. In most cases, the discount is taken from the gross amount or retail price of the purchase order. The sales price net of the trade discount is the new gross sales amount and accounts receivable. Trade discounts are typically variable and change with quantity purchased.
Example of a Trade Discount
A supplier of plastics used in the manufacture of industrial sight glasses might offer a discount for the purchase of acrylic rod in tube, at different quantities. For example, with the purchase of 100 to 200 acrylic tubes, there might be a 25-cent discount per unit. This discount could increase with the purchase of 200 to 500 units, to 30-cents per unit. Trade discounts permeate throughout different industries and are used when selling products and services in business-to-business transactions.
Cash Discount Definition
When sellers of goods or services want to speed up cash collections, they offer cash discounts. A cash discount is applied to a receivable, when a customer pays within a specified time period. These types of discounts are used in business-to-business transactions, when a supplier, vendor or wholesaler wants to increase cash flow. When clients take advantage of these discounts, they reduce their cost of goods sold or expenses and improve their balance sheet, which is beneficial for all stakeholders in the transaction.
Example of a Cash Discount
A seller of marketing analytics and related information may offer a 2 percent discount, if customers pay their invoices within 10 days of receiving their bill. The percentage discount can vary, but the principle is the same. Cash discounts incentivize customers to pay their liabilities quickly, helping the seller collect cash faster. This type of discount is commonplace throughout industry.
Trade and cash discounts each have advantages and can increase sales and cash flow. Knowing when to use these discounts, or when to take advantage of them, can impact bottom-line profit and compel customers to make purchases.