Purchase order financing puts a different spin on raising capital to fund your business. Instead of borrowing against assets you hold, or selling invoices that you issue, you instead acquire that money on the basis of an order that a customer places with you.
Let me explain what I mean.
By definition, a purchase order is a request for a product to be delivered on one day, but paid for on another. If you have a credit card, then you do exactly the same thing every time you use it.
The financial institution that issues the card, in effect, gives you a loan to buy whatever items you obtain with it. Most people don’t see credit cards in that light, which is perhaps one reason why they get into debt so easily.
But the principle behind purchase order financing is exactly the same. You don’t have to part with cash at the time that you buy. In fact, you don’t actually pay the supplier. Instead you repay the bank for the loan.
Here’s how it works:
The company such as Neebo Capital takes your purchase order as collateral for a loan. The finance company gives you the money in exchange for that order. They issue a Letter of Credit, which amounts to the loan documents, and then give it to your supplier. The supplier is now the borrower.
When the supplier fulfills the order, you can then resell it as part of your normal business. Then you can use some of your profit to pay the supplier, who in turn redeems the Letter of Credit they received from the bank. In other words, it’s a means for you to pay your supplier on time without draining your company of the money it needs to continue to trade.
Companies of all sizes can benefit from this form of financing, but it works especially well for wholesalers.
Let’s say that you receive an unusually large order. You don’t want to increase your credit risk with the bank any further by obtaining an ordinary loan and, in any case, the length of time under normal circumstances to get one could cause you to lose the order altogether.
You know that you’ll make the money needed to cover the loan after you fill the order, but you need the additional money now so that you can.
Or, let’s say that you receive an order from a foreign country. That can add a level of complication the companies that only trade in the US can’t even imagine. Not only are delivery times longer, but payment has to pass through the arduous, and sometimes costly, process of exchanging one currency for another.
There is one proviso, however, and that is that your supplier must be a reliable, creditworthy firm. That’s because he bank wants to be sure that you will be able to repay the money that it loans you.
Your ability to do that is based on the assumption that the supplier will give you what you need to fill the order. Then, when you’ve paid the supplier, they can then repay the bank.
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