How Purchase Order Finance Solved Terry’s Problem
Hi there, Julia here. I’d like to introduce you to a friend of mine. His name is Terry. Terry works in fashion. Terry just got a Purchase Order (PO) from one his best customers for 5000 units of skinny leg jeans. It’s his best customer.
However Terry is low on cash and can’t afford to get his order manufactured from his supplier in China this month. He’s waiting to be paid from another customer and his rent just came out. But if he doesn’t fulfill this order he knows his best customer is going to go somewhere else. How is he going to find the cash to fund this order?
Terry needs Purchase Order finance! If only he knew how it works…
Purchase Order finance is where the financier (AR Cash Flow) takes the PO for goods wanted from your customer and then pays the manufacturer to fulfill the order. There are a few key things that must be ticked off in order for this transaction to take place.
The manufacturer MUST be of sound quality and a reliable source. Have you used them before? Do they have a good quality rating? Just think of ebay. If you wanted to bid on a new Plasma TV, you wouldn’t bid unless you checked the seller rating first right? Same with a financier, they wouldn’t fund an order if the manufacturer didn’t check out ok.
Another key component is the details of the customer PO must be verified. In other words the PO has to be irrevocable. Once we agree to take on the PO, it’s irreversible and almost like a binding contract. This isn’t a lay-by folks, no refunds for change of mind or incorrect amounts ordered.[blockquote]After the customers PO has been checked out and given the all clear to move ahead the financier will open up a letter of credit to your manufacturer. A letter of credit for those of you who are new to finance like me is “Is a document issued mostly by a financial institution, used primarily in trade finance, which usually provides an irrevocable payment undertaking” It’s basically a promise of payment to the manufacturer that once goods are shipped and pass Quality control the financier will pay the manufacture.[/blockquote]
Once goods are manufactured they are then sent directly to the customer. This is to ensure the transaction is managed from start to finish by the financier and all runs smoothly.
If the customer is on COD (Cash on delivery) terms, once they have received your goods they pay the financier directly however if they have an open line of 60 days credit which most customers do – the financer will finance the invoice for you. You see Purchase Order finance works hand in hand with Debtor finance. This means the financier takes care of the whole transaction for you, from beginning to end.
Once invoice is paid from the customer, you receive the profit. Easy Peasy!
What sort of businesses would benefit from Purchase order finance? Anyone like my friend Terry, who manufactures finished goods.
If you’re thinking this sounds awfully similar to Inventory Finance I’m afraid you are incorrect. Purchase order finance is different to Inventory Finance as it doesn’t rely on the strength of your business but the strength in your customers and the customers PO. PO Finance doesn’t require property security or a second mortgage. As long as you have a strong customer order (and manufacturer) you are eligible.
To wrap it up if you are thinking Purchaser order finance is something that would benefit your business make sure you have the following elements sorted before seeking further advice.
- Good quality customers
- Purchase Order needs to be real and verifiable. No wishy washy orders.
- Your manufacturer MUST be solid and reliable. Cannot be some no name where details can’t be verified. Their quality and history must check out.
- Happy for goods to be shipped directly from your manufacturer to your customer.