Accord Purchase Order Financing… What is it and how does it work?
When business owners reach out to discuss their working capital requirements, many have a need relating to purchase order financing, or PO financing. In the simplest form, they have an order or pipeline of orders, but lack the cash flow to be able to convert their orders into sales. They have heard the term PO financing, but what is it and how does it work?
Simply put, PO financing is the financing of pre-sold, finished goods. It is often confused with production financing, where a manufacturer is looking to fund the purchase of raw materials and/or other manufacturing costs to be able to produce their goods for sale. With production finance, there is an execution risk that the client can gather all the raw materials required and finish production on time and to the specifications required by their customer(s). This form of financing is prevalent in regions outside of North America, where banks provide leverage against documentary letters of credit. While most North American banks will confirm incoming letters of credit, very few will discount or provide leverage against them. The same would be true for most alternative financiers. In these instances, supply chain financing might be a solution, which we will cover in an upcoming article.
So, who is an ideal candidate for PO financing? An ideal candidate is a business that is selling finished or near finished goods. These types of businesses include importers, distributors, wholesalers, etc. Here are some simple questions:
- Do you buy and then resell products without any modifications or customizations?
- Are your gross margins a minimum of 20%?
- Do your suppliers have a good track record of delivering quality products on time?
- Do your customers have good commercial credit?
- Are your purchase orders non-cancelable, with goods being sold on net terms?
- Are your orders a minimum of $100,000?
If you answered yes to all these questions, they you are a good candidate for PO financing! For many resellers, managing cash flow is a delicate task. In working with offshore suppliers, most require payment prior to shipping goods. With more local suppliers, growth has put stress on your credit limits. At the same time, your customers are demanding credit terms, opting to pay your invoices in 30 to 60 days. This creates a burden to carry the cash cycle for 3 to 5 months, depending on manufacturing and shipping time. In these situations, PO financing becomes a viable solution!
So, I’m a good candidate, but how does purchase order financing work? The best way to provide an explanation is to work through a sample transaction. Your ideal customer just inquired about placing a large order. It sounds like a dream come true, right? Well, at least it did before you checked your inventory and realized you don’t have the goods on hand to deliver and don’t have the cash to purchase what you need from your supplier. What can you do? Let’s assume that ABC Electronics is a developer of electronic toys and games. They have been working with an offshore supplier to manufacture their products under contract. After several smaller orders, ABC Electronics secures a large purchase order from a big box retailer. The retailer agrees to buy $500,000 of product on N30 terms. The negotiated landed cost is $300,000. However, the supplier requires payment in advance, or a Letter of Credit (L/C) to secure payment. They will begin processing the order as soon as the payment or L/C is presented. Unfortunately, ABC Electronics does not have the cash on hand to forward to their supplier, or enough collateral to open the L/C with their bank. Not wanting to lose the order, they seek a purchase order financing solution. ABC Electronics secures an agreement with Accord Financial to finance the purchase order. Accord posts an L/C to the supplier, who commences work on the goods. Once the goods are completed, they are inspected by a 3rd party agency before being loaded for shipment. Once the goods are delivered to the retailer, ABC Electronics issues an invoice for the agreed upon price of $500,000. Assuming Accord advances 85% on the corresponding accounts receivable, it generates $425,000 of availability for ABC Electronics. Accord withholds the $300,000 already advanced to the supplier, which closes the PO financing transaction and provides ABC Electronics with $125,000 of working capital. The balance of $75,000, less the fees, is remitted to ABC Electronics once payment is made by the retailer.
A purchase order financing facility gives you the confidence to take on orders of any size, knowing you can execute on them. You’ll spend less time worrying about cash flow and more time on securing new orders. Want to know if PO financing is right for you? Give us a call, it’s how great relationships start!