What is trade credit and how does it differ from a bank loan?

When a supplier ships $20,000 worth of materials and gives the buyer net-30 payment terms, the supplier has extended $20,000 of trade credit. No bank is involved. No interest accrues (unless payment is late). The supplier is effectively financing the buyer's operations for 30 days at no cost to the buyer — and at the cost of delayed cash receipt to the supplier. Trade credit is the largest source of short-term business financing in most economies, far larger than bank lines of credit.

For the business extending trade credit — the service provider or supplier — the economics only work if most customers pay within terms. A business with net-30 terms but an average collection period of 55 days is effectively lending money for 25 extra days, often with no compensation. This is why managing trade credit tightly — through credit applications, credit limits, and consistent follow-up — matters so much to cash flow.

For the business receiving trade credit, it is a genuine financing tool. Paying suppliers at the end of the net term rather than immediately conserves working capital. A business that pays all invoices on day 1 instead of day 29 is effectively giving away an interest-free loan. Early payment discounts like 2/10 net 30 (2% off if paid within 10 days) exist to make early payment attractive enough to give up that float.