Supplier Switch Under Pressure
A bakery buys flour from Supplier A at $1.20/kg with 30-day payment terms and reliable delivery. Supplier B offers $1.05/kg but requires payment on delivery and has missed two deliveries in the past year. The bakery uses 2,000 kg per month. Switching would save $300 per month on paper. However, the bakery's cash balance is $8,000 and it has $6,000 of other payables due within 30 days. The owner wants to switch immediately to 'stop wasting money'. The head baker warns that missed deliveries mean lost sales of about $500 per missed day.
1. Calculate the annual saving from switching and assess the cash flow impact of losing 30-day terms.
Read the worked answer
Paper saving: ($1.20 − $1.05) × 2,000 kg = $300/month × 12 = $3,600/year.
Cash flow impact: Under Supplier A, the bakery pays 30 days after delivery, effectively using the supplier as short-term credit. Under Supplier B, payment is immediate. That means the bakery must fund 2,000 kg × $1.05 = $2,100 per month upfront instead of $2,400 a month later.
Cash position: $8,000 cash, $6,000 payables due within 30 days. If the bakery switches, it must pay $2,100 immediately for the first month's flour while still owing $6,000. That leaves $8,000 − $2,100 − $6,000 = −$100 - the bakery would be overdrawn.
Conclusion: The $3,600 annual saving is real but the timing cost is severe. Losing 30-day terms converts a paper saving into a cash flow crisis in month one. The saving must be weighed against the loss of trade credit.
2. Recommend whether the bakery should switch, and explain what conditions would make switching sensible.
Read the worked answer
Recommendation: Do not switch immediately. The cash arithmetic shows switching would push the bakery into overdraft in the first month (−$100). A business that cannot pay its bills on time faces penalties, damaged supplier relationships and possible insolvency - far worse than a $3,600 annual saving.
What would make switching sensible:
- Negotiate terms with Supplier B. Even 14-day terms would ease the immediate cash hit. Ask.
- Build a cash buffer first. Once cash exceeds roughly $10,000 (enough to cover the $6,000 payables plus several months of upfront flour), the switch is affordable.
- Address reliability. Two missed deliveries in a year at $500 lost sales per missed day = $1,000 potential loss, which eats into the $3,600 saving. Negotiate a service guarantee or keep a backup supplier.
- Phase the switch. Move part of the order to Supplier B while keeping Supplier A for the balance, testing reliability before committing fully.
Judgement: The owner is right that $3,600 matters, but 'stop wasting money' ignores the cost of losing trade credit and the risk of stockouts. The disciplined answer is to negotiate terms, build a buffer, and switch in stages - capturing the saving without exposing the bakery to a cash crisis.