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THE PURCHASE ORDER FINANCE SOLUTION : P O FINANCING COMPANIES
Purchase Order financing and inventory financing /invoice factoring are relatively new alternative financing solutions in the Canadian business environment. These two solutions provide additional flexibility when combined with traditional financing sources provided by your Canadian chartered bank or independent finance firm.
It is a common fear among small-business owners that they will be unable to fulfill large orders because their company’s funds are tied up. However, many times suppliers who find themselves short on cash can turn towards P O Funding solutions and not risk losing potential customers!
Think of P O Financing as a short-term finance option, allowing you to access capital to pay vendors and suppliers when you have a verifiable purchase order or contract.
WHAT IS PURCHASE ORDER FINANCING - PO FINANCING VS FACTORING
Purchase order financing is a short-term funding option that provides business capital to pay suppliers in advance for qualified purchase orders. The key benefit of P O finance is that it allows companies to accept larger orders and contracts that would otherwise not be financeable by the company based on available financial resources - Factoring is the funding of invoices already generated where goods and services have been invoiced and awaiting client payment
It's a unique source of capital from a financing company without giving up equity. In PO Finance solutions, it's all about the transaction specifically, providing you with the liquidity to grow your company without taking on additional debt.
DO BANKS OFFER PURCHASE ORDER FINANCING?
The first type of financing institution that offers purchase order loans is a traditional lender. But we advise clients that banks don't commonly advertise their services in this area but may offer ong-standing customers who have been around for years and who have strong financials.
New clients at 7 Park Avenue Financial have quickly found that their current banking and funding arrangement formula is well beyond what they need in immediate financing. Let’s dig in. P O Financing works very well in work-out situations. The borrower’s existing bank/s does not want to finance all the purchases of the inventory as it goes beyond the borrowing formula set by the bank. So a purchase order loan is used to pay the supplier's invoice based on agreed-upon payment terms until a customer pays.
Traditional business and bank lending in Canada typically cannot meet the SME need for financing of large purchase orders and contracts, and most clients we meet can't satisfy the bank requirements of collateral, reliable financial statements, external guarantees, etc. Industry experts say that a significant percentage of all businesses requiring SME COMMERCIAL FINANCE solutions are continually worrying about their cash flow, let alone the cash flowing of large new orders. Enter the P O FINANCE solution.
WHO USES PURCHASE ORDER FINANCE LENDING FACILITIES
Growing and smaller and medium-sized businesses that have access to revenues otherwise not financeable utilize PO Financing - Your firm might not be able to generate the cash flow investment in a/r and inventory that comes with larger orders and contracts.
The types of firms that use P/O FINANCE are those with manufacturing PO financing needs, ie manufacturers as well as distributors, and firms with an import/export business model. Typical clients looking for this type of creative financing have large bulges in incoming orders or some seasonality attached to their business. EDC Financing can also be considered for out-of-country transactions as well as financing from BDC Finance.
Traditional business financing in the context of working capital and cash flow revolves, of course, around the traditional current assets of receivable and inventory. Even if your firm is well-financed and has a classic bank line of operating credit, you may have challenges in fulfilling large orders and contracts. This challenge becomes equally daunting when you don’t have traditional financing, so the ability to generate cash to fulfill larger orders and contracts becomes seemingly impossible.
Utilizing P O Finance allows you to take on larger orders without the commitment of a debt financing/loan solution. Purchase order financing/purchase order loans can provide you with the capital to fill those large orders and contracts. They can be very complimentary to your current financing if properly put in place. As we have noted, the concept of purchase order financing, aka ‘P.O. Financing, ‘is a relatively speaking new phenomenon in Canada.
HOW DOES P O FINANCING WORK?
Purchase order financing companies are a solid method for businesses with large purchases to get their goods without paying upfront. Based on the customer's purchase order and your financing being approved the purchase order finance company will pay suppliers, typically via a letter of credit or some other mechanism.
Financing is put in place to cover your material costs and direct labor costs, which are, of course, a significant part of your order or contract. We can safely say in many businesses, 60-70% of the total order or contract is based on the gross margins in any industry. The purchase order funding process begins with your acceptance of an order from a verifiable customer.
In most of these cases, clients of 7 Park Avenue Financial require financing because our client's supplier requires payment in advance. The working capital cycle has now kicked in!
Most clients know that full payment from their clients won't be received for probably another 60-90 days. Business owners, of course, do not want to lose the order and are typically unable to obtain Canadian chartered bank financing based on whatever their current financial position is.
The verified purchase order represents opportunity and value, though - it merely requires accelerated funding. So in the P O FINANCE process, your supplier is paid either by direct cash or, in some cases, a letter of credit with conditions related to your purchase order re-delivery, amount, pricing, etc. The key to purchase order financing company approval is your ability to present your company and management experience.
PO FINANCING COSTS
It's safe to say the complexity of this type of financing is why it is more costly - there are several moving parts: timeline around the order and delivery, credit risk, etc. Purchase order lenders distinguish themselves by being experts in the area of alternative finance. They have the expertise and ability to look at the entire order cycle, including the creditworthiness and legitimacy of your supplier/suppliers.
WHAT DOES THE P O FINANCE COMPANY LOOK FOR IN YOUR TRANSACTION?
APPLYING FOR PURCHASE ORDER FINANCE
As we have mentioned, PO FINANCING is a more expensive form of financing, so your firm must sustain the gross profit margins that satisfy your profits and the financing cost in the transaction.
3 KEY ITEMS TO START YOUR P O FUNDING APPLICATION
You should be able to provide the following at the commencement of your purchase order finance financing request:
1. Supplier Invoice
2. Your firm's sample invoice to the customer
3. General business information such as financials, legal name of your company, etc
Your firm, therefore, now has the working capital to finance your production and fund purchase orders. What’s left, of course, is essentially the profit on your P.O. or contract.
While it sounds relatively simple and easy, we would point out some critical issues that will allow the Canadian business owner and financial manager to determine if their firm qualifies for such financing. We can first of all say there has to be sufficient proof that your purchase order or contract is with a valid, creditworthy party.
Naturally, if there is any doubt that your order might not get paid or that the customer is not creditworthy, that precludes the successful completion of any purchase order financing. You should also not view purchase order financing as a long-term financing solution. It is not that. The funds are generally repaid immediately when you have completed your order/contract.
P O FINANCING VERSUS FACTORING
Some technical issues need to be addressed if you have secured financing arrangements in place already. For example, if your firm has a bank line of credit, they would be required to acknowledge the security taken in the Purchase order and the resulting receivables that you create out of that order. In our own experience, Purchase order financing frankly works best when there is not a secured lender in place already, but that’s just our firm’s observation.
Additionally, on occasion, specific other collateral or personal guarantees might be required. We would hasten to add that if you have already provided guarantees to the bank or other firms, it would seem logical that you would provide them on the purchase order financing, which is somewhat of a riskier transaction for the lender. Most clients at 7 Park Avenue Financial realize that purchase order finance companies are really providing one-stop funding that takes you all the way from the order to collecting the receivable.
THE IMPORTANCE OF GROSS MARGINS IN CONNECTION WITH YOUR PURCHASE ORDER FINANCING AGREEMENT
Note that P O loans that allow you to fund purchase orders are often very well received by suppliers who know they will be paid. Also, government purchase order financing is available. Another very critical point is the whole issue of gross margin. The problems are that you need good gross margins to complete purchase order financing!
A firm in a low-margin, very commodity-oriented business is not a strong candidate for P.O. Financing because the combination of cost of goods, labour, overhead costs, and financing costs of the funding leaves very little for the business owner. So categorically good gross margins make a much better P.O. Financing deal.
Costs in PO FINANCE tend to be different for each transaction based on several factors, including the cost of capital, time to complete the order, etc. International purchase order financing may also bring new complexities to your transaction regarding sovereign risk.
For the business owner and financial manager looking at purchase order financing lenders, it is important to weigh the costs and benefits of your transaction. In many cases, larger P O's and contracts are a key part of company growth plans, so they are prepared to forgo some profit to achieve sales goals.
In many cases, traditional financing can't react quickly enough to satisfy the timelines of your order. So alternative finance solutions such as P O Finance, Inventory Financing and A/R financing solve your financing need... quickly.
So why has this type of funding become popular – that’s fairly easy to understand. First of all, the current Canadian business financing environment is challenging – therefore, any alternative financing vehicle has a strong chance of being embraced and becoming more popular.
After that, it simply makes sense that solutions from PO financing companies can be very successful for your firm if it gives your company working capital you didn’t have. It allows you to grow and profit at greater levels and improves your competitive positioning within your industry with financing to fulfill orders.
CONCLUSION / PURCHASE ORDER PO FINANCING
In today's competitive market many companies are finding themselves with less working capital and cash flow than they had anticipated. This can be a problem when several large orders come in at once and your small business isn't flush with enough cash on hand to fill them. Statistics tell us that 60% of surveyed entrepreneurs worry about Cash Flow Problems monthly (and most say these worries outweigh other concerns), thereby emphasizing the need to access business capital as required.
We strongly recommend that if you consider Purchase order financing that you enlist the services of 7 Park Avenue Financial, a trusted, credible and experienced Canadian Business Financing Advisor with a track record of business finance success who can assist in maximizing your cash flow and working capital with this unique, innovative type of financing for business loans that makes sense for your business.
FAQ: FREQUENTLY ASKED QUESTIONS / PEOPLE ALSO ASK / MORE INFORMATION
What is BDC and EDC?
BDC and EDC are two Canadian crown corporations that often work together to provide financing for business expansion for Canadian companies looking to expand globally and require the finances t meet their growth goals.
What is the cost of Purchase Order Financing?
P O financing can cost between 2% + per month so borrowers must be able to absorb the cost of financing in their gross margins, Additionally P O finance funds goods and products, not services. The transparency of purchase order funding makes your clients and suppliers aware of your P O financing strategy.
What is the difference between purchase order financing and factoring?
Purchase order financing and factoring of invoices are both forms of alternative financing for businesses requiring cash flow to grow their product revenues. The PO financing company allows a company to fulfill an order or contract by providing funding in advance to fulfill the order with their suppliers when up from cash to pay for goods is not available
Factoring of invoices happens when the order is completed and a client is invoiced - allowing the company to receive cash prior to the client paying the invoice and thereby accelerating the working capital cycle.
What is invoice financing?
Invoice financing is a method that many businesses utilize that allow them to generate immediate cash flow via outstanding invoices to their clients. Companies can utilize traditional factoring solutions or alternatives such as confidential receivable finance. Companies with tight cash flow can improve working capital via this financing solution.
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