Purchase order financing helps small businesses handle large sales. However, it’s important to note that purchase order funding does have limitations and it’s not for every business. In this article, we’ll explain more about purchase order financing and how to determine whether or not it’s a good fit for your company.
What is purchase order financing?
Large purchase orders are ideal for small businesses. Large orders can be used to transition into more profitable opportunities. On the other hand, large orders also have downsides. Many small businesses are unable to fulfill these orders because they don’t have the funds, which means they miss a chance to grow their business.
The primary challenge involves the timing of payments. Most large companies require net-30 or net-60 day payment terms, which improves their cash flow because they can use the products for up to 2 months before they pay for them. Small businesses, on the other hand, don’t have this advantage. They must pre-pay their suppliers, using their cash, but still have to give their larger clients those net-30 or net-60 day terms.
Purchase order financing can solve this problem by paying the supplier directly and allowing you to fulfill the transaction without having a significant impact on your finances. Once the customer pays the invoice, the transaction settles. When used properly, purchase order funding can help your company grow.
Advantages of Purchase Order Financing
Purchase order financing provides a competitive advantage for businesses that qualify for it. Some of the advantages include:
- Allows you to fulfill large orders
- When used properly, purchase order funding can be used to quickly grow your company, allowing you to fulfill orders that exceed your current funding level.
- Covers up to 100% of supplier costs
- Purchase order financing can cover up to 100% of supplier costs if the gross margin is over 30%. This allows your business to efficiently use your cash flow and process more orders.
- Line can grow quickly
Purchase order financing is not limited by traditional banking limitations, but can grow to match your needs as long as your customers have good credit, your suppliers are able to deliver, and your business can fulfill the orders.
Available to new businesses
While other solutions require a long track record of sales, purchase order financing can be acquired by new businesses. It’s one of the few solutions that work for new businesses.
Can Purchase Order Financing Help Your Business?
If your company sells products and has more orders than funds to fulfill them, purchase order financing can help. Below are some of the qualification requirements for purchase order financing:
Must be a distributor/re-seller
Purchase order financing can help businesses that re-sell products, preferably from a single supplier. The purchase order cannot include services, which narrows down the field of companies that can use purchase order financing. For example, a manufacturing company can’t use purchase order financing, but a distributor that relies on third-party manufacturing can.
The order is over $50,000
Most finance companies only work with large transactions over $50,000 since setting up the transaction is expensive and labor-intensive. Some companies will work with smaller accounts, while others have higher minimums.
Your gross margins must be high
Since financing purchase orders can be risky, purchase order financing is more expensive than other options. On average, the rate is 3% per 30 days, though it varies from transaction to another. As a general rule, purchase order financing works best for transactions lasting under 90 days with a gross margin of 30%+. Transactions with low margins or have longer terms are at an increased risk of being unprofitable.
Commercial clients must be financially solid
The primary collateral for the transaction is the ability of your client to pay their invoices from the order. The finance company will evaluate your client’s credit carefully to reduce the risk of default. Finance companies only engage if the client has excellent credit. They will evaluate the following:
- Track record of paying invoices
- Risk of default
- How long it takes to pay invoices
- Supplier must have a good track record
Your supplier is also involved in the success of the transaction. The finance company will evaluate suppliers to determine if they can fulfill your order. The payment will be guaranteed and will be sent after the goods are shipped. Most purchase order finance companies do not work with foreign suppliers due to the risk associated with them.
Get More Info
If you are interested in learning more about or obtaining purchase order financing for your small business, contact Commercial One Group today.