Purchase Order Financing
What it is
Purchase Order (PO) Funding is a short-term financing solution used to finance the purchase or manufacture of specific goods that you have pre-sold to your creditworthy customers (i.e., commercial entities or government agencies). It is an ideal tool for your company if you have exhausted your available working capital, reserves, and bank options, as it enables you to finance up to 100% of your vendor costs and thereby fill more and bigger orders.
When you receive a purchase order that you cannot fill because you do not have the cash on hand to buy the goods ordered (or the parts you need to manufacture the product), you may qualify for PO funding.
In other words, a business can secure financing for the purchase/manufacturing of goods for resale based on existing purchase orders. With PO Funding, you can be more proactive towards securing more clients and/or more orders and still feel confident that you can fill your customers’ orders without delays and disruptions.
- Can accept more orders regardless of cash position
- No need to turn down larger orders due to lack of working capital
- More bargaining power with vendors due to the availability of funds
- Better vendor relations and better chance to obtain future payment terms
- More revenue & profit plus accelerated business growth
- No long-term commitment and no limit as it is transaction based and tied to a sale
- Does not put additional debts on the books
- No need to give up equity / management control
How it works
Let’s say you have a valid and irrevocable purchase order, but lack the funds to pay your vendors. Your vendors will not grant payment terms, and the bank will not extend the amount of credit required to pay your vendors. Under a PO funding agreement, your vendors are paid directly by the PO funding company. PO funding is designed for growing businesses with little access to working capital and/or a poor cash flow. Generally, PO funding is available in virtually any industry. The type of business that qualifies is usually a manufacturer, distributor, wholesaler, or reseller of finished products. In some cases, restrictions may apply to start-ups and companies that do not yet have a visible business history / sales record in general or have no prior experience with the particular product or customer.
B.Yudee and The Bees – A PO Financing Example
B.Yudee owns Sparkle Inc., a distribution company selling fashion jewelry to the national retail chain The Bees. As The Bees is a reliable but slow paying customer, B.Yudee has been using factoring during the past years to guarantee a positive and predictable cash flow while waiting 60 days and more to collect on her invoices to The Bees.
She doesn’t really like playing “Bank” for her big customer by carrying them for 2 months or longer at zero percent interest (i.e., granting them 60-day payment terms) on each order. However, this was the only way to do business with The Bees – and after all, factoring her invoices helped her bridge the gap between delivering her products to The Bees and getting paid.
In fact, factoring her invoices has helped B.Yudee to grow her business and still stay cash positive when more and more stores within the chain started placing orders with her and thus continuously expanded her sales and geographical reach throughout the years.
All was well, until one of The Bees’ large metropolitan stores placed an unusually large order with her. Their typical orders ranged from $5,000 to about $15,000, but this one came in at $50,000.
While factoring had provided her with sufficient cash to handle the usual orders without any problem, B.Yudee did not have sufficient cash to fill this larger order. But how could she possibly turn down such an order from her biggest and best customer? What if they buy elsewhere, like the new supplier, and don’t come back to her if she has to turn them down now?
Given the big opportunity on the one hand and the potential risk of not delivering on the other, B.Yudee decides she wants to accept the order. She has calculated that the cost of goods sold (COGS) for this order will be $33,000, thus leaving her with a 34% gross margin. But how can she possibly swing $33,000 when her cash on hand isn’t enough?
B.Yudee decides to talk to her factoring company about the opportunity, hoping that they can fund her purchase order (instead of the final invoice to The Bees) so she can buy the products.
While her factoring company does not provide PO funding directly, they have been working with Multiple Funding Solutions for several years, who have assisted a number of their clients in similar situations. Hence, they recommend that B.Yudee contact Multiple Funding Solutions. And she did.
With the assistance of B.Yudee’s factoring company, we were quickly able to analyze and risk-assess the various components of the transaction and immediately issued a Purchase Order funding proposal to B.Yudee. She was happy to have found a solution and be able to fill The Bees’ big order, so she accepted the offer. With the formalities behind us, we went ahead, confirmed the Purchase Order with The Bees, and released the $33,000 to B.Yudee’s vendor right away.
Twenty days later, the goods were ready and drop-shipped directly to The Bees. Upon receipt, B.Yudee issued an invoice to The Bees, which she submitted to her factoring company for factoring.
The factoring company verified the invoice with The Bees and factored the invoice. The slight twist: Instead of releasing the entire funds to B.Yudee – as they normally would in any other factoring transaction – they send a portion of the funds to Multiple Funding Solutions to cover the PO funding transaction.
The entire transaction was a great success. B.Yudee was extremely happy to have found a good solution to fill a huge order. The Bees was delighted to receive the products from their usual supplier on time and without any hick-ups.
Now, B.Yudee and The Bees are ready to do it all over again! And so are the factoring company and we. Just waiting for the next big order…