Every business exists to make money, but as the old saying goes, you often need to spend it in order to make it, and many businesses can find themselves in situations where they simply don’t have the capital to cover all of their necessary costs.
There can be so many of those costs to cover, from paying employee salaries to placing orders for inventory with suppliers to paying for rent, utilities, new equipment, and so much more, and a lot of business owners can be left scratching their heads and wondering how they can possibly pay for everything they need.
Fortunately, various financing options exist to help businesses great and small with their funding issues, providing them with short or long-term capital solutions like loans and lines of credit to assist with their debts and payments. Purchase order financing is one such option, and this guide will cover all the ins and outs of what purchase order financing is and how it works.
What Is Purchase Order Financing?
Before we take an in-depth look at what sort of benefits purchase order financing can provide and what companies it tends to work best for, let’s first focus on a simple definition and explain how the process actually works. In simple terms, purchase order financing is funding for businesses in need of additional cash to buy inventory and fulfill the orders of their customers.
It works quite simply: the financing company will pay the supplier for you, ensuring that the inventory you need gets made and delivered to your customers. In response, the payment from the customer actually goes directly to the financing company, and they’ll take off their fees before sending the excess profits to you.
This allows your business to carry on operating in terms of buying and selling goods, as well as making money from those sales, with the financing company simply taking its own cut along the way and providing the necessary capital to keep the process flowing.
An Example of Purchase Order Financing
Purchase order financing can sound a little complicated at first, but looking at an example of how it works can help you figure out the complexities of this form of business funding.
- Step 1 – The process begins with your company getting an order from a customer, with a set amount of products they want to buy. You can then analyze this order and speak with your supplier to get the information you need, and if you find that you need additional money to cover the costs associated with it due to cash flow problems at the time, you can turn to a purchase order financing company for help.
- Step 2 – Once you’ve established that you need extra capital to buy the inventory or suppliers you need to fulfill a customer’s order and make contact with the financing company, you’ll need to make sure you qualify for funding. The eligibility requirements can vary, depending on which company you work with, but even if you’re running a start-up without much credit history, it’s still usually possible to get some form of purchase order financing.
- Step 3 – After your application for funding has been successful, the purchase order company will pay your supplier. They’ll often pay 100% of the necessary charges, but you might have to subsidize a certain percentage too, depending on the terms of the agreement. Either way, the supplier will be paid and can then start working on fulfilling your customer’s order and delivering it.
- Step 4 – Once the customer has received their order, you’ll be able to send them an invoice. They’ll then pay for the purchase, but their money will go directly to the financing company, not to your company. Throughout the process, as you can see, your company doesn’t play a major active role, with most of the work being handled by your supplier and financing company. The company will then take their fees and forward the remaining cash to you.
Purchase order financing really is that simple, and this method can be of great benefit to a lot of different businesses, from brand new start-ups to established brands that don’t have the best credit scores or history.
Importers, exporters, wholesales, and resellers can all benefit from purchase order financing, and it’s regarded as one of the easiest forms of financing to qualify for, with very low requirements in general.
It’s also very flexible, with financing companies able to adjust to meet your specific needs, rather than paying out a set lump sum loan, for example. So if your company needs some financial aid with fulfilling orders, this form of financing might be the best choice for you.