The Basics of Purchase Order Financing
There may be times when a company receives a big order but is unable to fund it with available capital. Rather then turning down the business, one option is to use purchase order financing. This can be a great option when a company has a client that has a really strong credit history. For clients with spotty credit reports, this may not be an available option because it will be difficult to find a purchasing order financing company that will take the risk of becoming involved in such a transaction.
Purchase order financing is a financial tool used by some companies to fund jobs that they don’t have the money to complete. For example, Company A may have received a purchase order from a state government agency. It is a large order which could mean lots of money for the company but they don’t have the money available to handle it. Rather then lose the business they might attempt to find alternative options to bankroll it. A bank loan is an option, factoring is an option, and purchase order financing is another. We will talk more about the latter below.
In the example above, the purchase order financing company would agree to advance the company the money for the supplies for Company A. They might pay the supplier directly or open up a line of credit with them, which the finance company would back. This allows Company A to get the supplies they need to fulfill the order. The finance company will then collect on the invoice sent to the state government agency. When they receive the money, they will send it to Company A, minus fees for collections and the money they were already advanced.
Purchase order financing only works when the client that made the purchase order has a good credit history. Some purchase order finance companies will only work with commercial and government clients with a strong credit history. This drastically increases the likelihood that they will be repaid. They are only able to make money if they can collect on the invoices. Companies with strong credit scores, are more likely to pay what they borrow and in a timely fashion.
There are a number of positives to this type of financing. It allows companies to get money really quickly. The entire process from set up to payment might take between 5 and 10 days. It also allows companies to take on big jobs that at first consideration might not seem like they would be able to afford. Being able to accept these jobs allows a company to grow even if they don’t have the finances already on hand to fund expansion.
By leveraging a purchase order, they are able to complete jobs that they normally would not be able to, allowing them to grow revenues and build their business. Having to turn down jobs will not only stunt the company financially but might also tarnish their reputation. Turning away customers means no money and raises doubts about a company’s capability.