What is Purchase Order Finance?
The term purchase order finance refers to a type of short-term commercial funding option that provides capital to business owners to pay their suppliers upfront for confirmed purchase orders. Businesses usually intend to avoid turning down an order due to cash flow challenges, and purchase order financing allows them to overcome the issue of accepting huge orders. Further, since there is no long-term binder, businesses can stop using it at any time in case there is a drop in order volume.
Purchase order financing is designed for growing small businesses and startups with limited access to working capital required to fulfil large orders. The types of businesses that qualify for purchase order financing include manufacturers, distributors, wholesalers, resellers, importers, exporters, etc.
Benefits of Purchase Order Financing with Yubi
Purchase order finance is an excellent solution for small businesses struggling to rise above the cash flow problems to fulfil an order. However, to understand its full usefulness, let us look at some of its major benefits.
✓ Purchase order finance is a good option for businesses that are finding it difficult to secure approval for a loan against a purchase order in India within a reasonable time. It is easier to qualify for purchase order loans where the purchase order itself acts as the collateral for the loan.
✓ Business loans usually require the promoters to sign a personal guarantee, which means failure to repay leads to the seizure of personal assets. In the case of purchase order finance, some lenders don’t require any personal guarantee, which means the lenders absorb the risk if the borrower cannot pay it back.
✓ Typically, startups are in rapid growth mode, but their lack of track record makes it challenging to secure funds to realise the growth. So, purchase order finance is great for startups as it helps them achieve growth while shoring up cash flow.
✓ Unlike regular business loans, purchase order loans are flexible. If the cash flow drops, funds can be raised using the outstanding purchase orders. On the other hand, businesses can stop using it if there is a drop in order volume.
Advantages and Disadvantages of Purchase Order Financing
There are both pros and cons of purchase order financing & businesses must weigh both before availing them. Let’s first take a look at the top advantages of purchase order funding.
- Purchase order financing companies can provide timely funding to businesses who need to purchase materials urgently but do not have the necessary money in hand. Purchase order financing keeps supply chains & both supplier and buyer operations active even if they are low on working capital.
- A purchase order financing company can help businesses experiencing a lean sales period as well as start-ups that are growing rapidly and need quick capital. Businesses experiencing a temporary cash flow shortage or with funds stuck in transit due to unpaid invoices can avail POF to keep businesses operational.
- PO financing is generally easier to avail than conventional business loans. Start-ups with insufficient credit history can avail of purchase order funding with relative ease, as a purchase order financing company looks into the reputation and creditworthiness of customers and suppliers.
- PO financing is somewhat akin to invoice financing and does not involve paying any monthly instalments, unlike generic business loans.
However, there are certain downsides too.
- While purchase order financing can help businesses acquire a large purchase order, they are much costlier than generic business loans. The annual percentage rate can be as high as 50% or more on the financed amount.
- The entire POS financing ultimately depends on when the customer pays the outstanding invoice amount. At the same time, it may be difficult to estimate the exact amount of funds. Purchase orders also need to be placed successfully before the funder can finance the supplier.
You may not also receive 100% of the total amount of the purchase order.
- The PO financier becomes a central figure in the supply chain process, and the buyer loses control significantly. It is they who pay the supplier and receive payments from the customer. There’s a chance that things may not go as the buyer wants them to and may even mar their relationship with the supplier and/or the buyer.
How Does Purchase Order Finance Work?
Purchase order finance is a great way to fund cash-strapped small businesses and startups that are on track for huge growth in the future. The following pointers highlight how purchase order finance works:
✓ The intended buyer places an order by issuing a purchase order.
✓ Once the order is confirmed, the seller prepares the cost estimate.
✓ The seller decides to apply for purchase order financing to meet the working capital gap.
✓ The purchase order financing lender extends funds to the seller.
✓ Once the payment is received, the seller delivers the product to the customer.
✓ The seller issues the invoice after shipping the product.
✓ The buyer pays the invoiced amount to the lender on the agreed date.
✓ The lender, in turn, pays the seller after deducting its financing fee.
Purchase Order Financing: The Difference Between Traditional Lenders and Alternative Funding Options
A traditional lender such as a bank or a NBFC is generally reluctant to offer conventional or even small business loans with purchase orders as collateral. Large orders may only qualify for PO financing and major financing companies wont’ offer anything if the buyer has bad credit. Other factors such as the creditworthiness of suppliers and customers may also come into play, making it nigh impossible for small and medium businesses to avail these financing options.
PO funding process with traditional lenders is long, winding, and may even require collateral in the form of bonds, equity, etc.
Alternative lenders have much lenient conditions when it comes to providing funding. Alternative funding companies such as Yubi, India’s leading digital corporate debt platform, allow small and medium businesses to avail purchase order financing from a variety of purchase order financing companies. Yubi employs advanced financial technologies to carry out faster onboarding, quick disbursal to the supplier, and easy monitoring.
Yubi follows all regional and international trade financing rules while offering purchase order financing solution to buyers across India.
Who Uses Purchase Order Financing?
Different companies uses purchase order financing when facing cash flow problems. These include:
- Outsourcing Businesses
- Businesses with heavily fluctuating or seasonal sales patterns
- Businesses low on working capital, low on liquidity, or facing a cash flow crunch but with an immediate need of raw materials
How Line of Credit Is Used For PO Financing?
Business lines of credit are very useful for businesses as they can secure financing several times from a singular source. A business line of credit is a great way to finance your purchase orders as they help businesses to:
- Purchasing new equipment
- Maintain healthy stocks or extra inventory
- Acquire resources necessary to stay competitive in the market
- Tackle any out-of-pocket expenses
- Buy essential materials for an urgent project
- Access PO financing that’s free of any commitment
Why is Purchase Order Finance for You?
Purchase order financing can help you fulfil multiple orders so that your business’s growth is not constrained due to growing funding requirements. The process is straightforward – the purchase order financing lender provides you with the fund through a letter of credit or cash, you deliver the order to the customer, and you receive the proceeds after paying the financing fee to the lender.
By now, we have seen that purchase order financing is an excellent option for growing small businesses and startups. However, the option can become smoother and easier with the help of an experienced supply chain finance platform like Yubi. Under Yubi Flow, an end-to-end trade and supply chain platform, vendor finance, dealer finance, and anchor financing products cater to purchase order financing requirements.
How to Apply and Qualify for Purchase Order Financing?
Applying for funds with PO financing companies is be a time-consuming process. You will have to present a bunch of vital business and purchase-related documents, as well as showcase the creditworthiness of all members in your supply chain. Here’s a list of all the necessary documents.
- The purchase order from the customer(s)
- The supplier’s invoice
- The customer’s invoice
- The purchase order to the supplier
- Business information of the buyer such as trade license, incorporation & establishment documents
- Necessary Legal information
- Financial statements such as audited balance sheet, profit & loss statements, & the like
- GST & income tax filings
Requirements & eligibility criteria differ across lenders. Some essential criteria include creditworthy suppliers and customers, large purchase orders, non-cancelable transactions, reputed & capable suppliers, and the like. Careful shortlisting, thus, becomes essential, especially for MSMEs.
Yubi simplifies & speeds up the entire purchase order financing through a unified API-backed digital platform. Shortlist your PO financing company from more than 750+ lenders, avail of easy onboarding & documentation, and get your PO finance within a matter of hours via India’s leading corporate debt platform.
Let us assume that a company lands a significant order from a prospective buyer. However, the company doesn’t have enough funds to pay the supplier upfront. So, the company leverages the purchase order to access liquidity and secure funding from a lender.
A purchase order is a commercial document that serves as an official offer issued by an intended buyer to a seller. It is recommended that vendors refrain from delivering or shipping products before the issuance of the purchase order.
A customer generates a purchase order at the time of placing an order. On the other hand, a seller generates an invoice after completing an order. In short, a purchase order denotes a sales contract, whereas an invoice is the confirmation of a sale.
Purchase orders of large amount, creditworthy customers and capable suppliers, and non cancelable transactions are essential factors for qualification.
Major lenders may ask for collateral for purchase order financing.
It all depends upon the lender or financing company from where a business is availing PO financing.
The customer can cancel purchase orders as long as no goods have been received based on that PO and the vendor approves of the cancellation.
Yes, they are legally binding contracts and mandatory for carrying out authorised trade.
The key difference is that PO financing is pre-shipment funding and takes place before any goods have been sold to the customer. Invoice factoring can be availed after the customer receives goods or avails services but is yet to pay for them.
The rates are quite high and lie in the range of 30% to 70% of the total supplier costs.