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Purchase order finance

Use your purchase orders to secure funding and supply customers while increasing production capacity.

Name Product Min. Loan Amount Max. Loan Amount Loan Term Upfront Fee Filter Values
ScotPac Invoice Finance
From 1 year
No set amount
Improve your business cash flow by financing your outstanding invoices. No minimum trading history required, but minimum 12 - month term and $10,000 in invoices.
ScotPac Selective Invoice Finance
1 to 3 months
Finance your unpaid invoices on demand with terms of 1 - 3 months. 95% of invoice is paid upfront, with no minimum trading history required.

If your business is having trouble filling orders, you may want to consider using purchase orders as collateral to pay suppliers. Referred to as purchase order financing, it's a popular option for small- and medium-sized business owners because it can be a short-term solution to temporary cash flow problems.

This guide will take you through what you need to know about purchase order financing.

How does purchase order financing work?

Purchase order financing can be the ideal solution for resolving cash flow problems and getting outstanding orders filled. Using the purchase order as security, the lender will pay your suppliers on your behalf. Once the suppliers have delivered the finished goods to your customer, the customer will pay the lender and you will collect the profit. This way, your business can continue to fill orders, take on more work and ultimately expand and develop its capacity.

The purchase order finance process

  1. You receive a purchase order from your customer
  2. You apply for funding from a lender using the purchase order as collateral
  3. The lender contacts the customer to verify the purchase order
  4. The lender then pays your supplier, who ships the finished goods to your customer
  5. The customer pays the lender
  6. The lender transfers any profit to you

How you can compare purchase order financing

Here are some factors to consider when comparing purchase order finance loans:

  • Lending criteria. Purchase order finance is usually offered by alternative lenders where the lending criteria are more flexible than those of banks.
  • Verification. The lender takes a risk financing your purchase order, so the authenticity and validity of the purchase order will be verified with the customer and supplier.
  • Short-term. This is a short-term solution to cash flow problems, meant to help bridge the gap between receiving an order and collecting the profit once the customer pays. If you require a larger loan you may want to explore other loan options that may be better suited to your needs.
  • Maximum amounts. This depends on the lender, the size of your purchase order and your business's capacity to fill the order. Some lenders set minimum and maximum loan amounts, so do some research based on the size of your order.
  • Local and overseas suppliers. If your suppliers or customers are overseas, make sure that the lender is aware of this and will agree to provide finance.

What are the benefits and drawbacks?

  • Unsecured financing. Besides the purchase order itself, your business doesn't have to put up security for this loan.
  • Safe. Lenders cover all bases before approving financing, including validating the authenticity of your purchase order with suppliers and customers. The funding goes straight to the supplier who sends the finished goods to your customers.
  • Simple to procure. You can apply for purchase order financing online. Approval is fast so that you can supply your customers as quickly as possible.
  • No need for strong assets or equity. Unlike traditional banks that look to your business assets and equity, lenders offering trade facilities and purchase-order financing will generally not have such requirements.
  • Cheaper rates. Since these types of financing look to the strength of your purchase order along with a strong trading and credit history, they generally mean lower risk for lenders compared to traditional sources of financing. This equals lower interest rates.
  • Short-term. This is a short-term loan designed to resolve temporary cash flow problems. If you have more serious financial issues, a different loan type might be more suitable for you.
  • Not for startups. Since you'll need to have been in business for some time in order to qualify, startups are generally ruled out for these types of loans.
  • High credit standards. PO financing requires very good creditworthiness for the customers buying your goods. Also, both types of financing require a clean credit history for your business.

Things to consider before you apply

Make sure you're aware of the following pitfalls before you apply:

  • Not knowing your supplier. Too many times businesses conduct transactions with shady suppliers only to be exposed when (and if) the shipment arrives. Make sure you know exactly who you're dealing with. A good way to avoid problems is to have a trading partner overseas to help you monitor letters of credit and properly inspect your shipments.
  • Borrowing at a high cost. Make sure you're well-aware of all the costs associated with your loan. This includes the type of interest rate being applied (variable or fixed) and how it will be calculated. Also, be aware of all fees, including one-off and ongoing fees, and make sure you compare all options between lenders rather than jumping on board with the first lender you like.

Is there anything to avoid?

  • Product inspection. Once delivered, the customer will do an inspection of the finished product. It's imperative that the order is correct; a delivery mistake reflects poorly on both your business and the lender.
  • Risk. Before applying for finance, make sure that your business can fill the order. If you can't meet the obligation, you might have difficulty being approved for a loan in the future.

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FAQs about financing purchase orders

Who will lend money against a purchase order?

You will most likely get funding from smaller, online lenders rather than traditional banks. Lending criteria is more flexible and they're willing to lend smaller amounts to small- and medium-sized businesses.

What are the criteria that my business needs to fulfill?

Most lenders require that your business isn't encumbered by too many existing loans and that it doesn't have legal or tax issues. Your business should also have relatively good profit margins and work with reputable commercial partners. In most cases, the purchase order should be non-cancellable and for finished goods only.

Will I get funding equal to the whole purchase order?

This differs from lender to lender. Some will lend 70% of the total purchase order, while others will lend as much as 90%.

What happens if something goes wrong with the delivery of my shipment?

It depends on the particular agreement made between you and your lender. However, with PO financing, your lender will still get paid since your goods are pre-sold.

How long do I need to have been in business for to qualify for such loans?

Depending on the lender, loan type and amount, anywhere between one and two years.

Can I qualify for PO financing for goods that haven't been manufactured yet?

Unfortunately not. Your purchase order financing request must be for finished goods as there is more risk for the lender when having to worry about things such as late orders, defective items, etc.

Picture: Shutterstock

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