LPO / Local purchase order finance

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What is purchase order finance?

Purchase order finance (PO financing) is a funding facility for paying suppliers. It is a type of finance secured on the back of a purchase order (PO), local purchase order (LPO) or letter of award. This order will usually be an agreement, issued by a buyer — stating what products they wish to buy.

Normally companies would use existing working capital, to source and complete the order, but there are times when this may not be possible. Purchase order finance bridges this cash flow gap — by releasing money in advance.

Purchase order finance is suitable for a variety of businesses including contractors, logistics, trading, wholesale and retail. For direct manufacturers, supply chain financing is more appropriate — and it comes with many of the same benefits.

Where purchase order finance is focused on domestic trade and business — trade finance is focused on international import and export.

Like invoice finance and inventory finance — PO financing is a type of working capital finance.

Purchase order finance — considerations

Although securing a major contract, in the form of a purchase order, is good for any business — this can bring challenges with it.

Firstly, your company would need to pay suppliers, staff and meet other expenses — before being able to provide the goods stated in the purchase order. Secondly, the purchase order may have lengthy payment terms, of upwards of 90 days, which brings cash flow issues.

PO financing is a solution to these problems, as it provides a way for your business to receive the cash needed — to fulfill orders and better manage cash flow. This enables your business to take on and bid for larger supply contracts, while using company working capital — for other business growth uses, like R&D and acquiring capital equipment.

By being able to make quick payments to suppliers, using purchase order finance, you are able to negotiate better contract terms and prices.

PO financing solutions are typically short term, less than 90 days, but can be longer. It is generally one of the more expensive financing options out there. As such, paying the debt off quickly — using an invoice financing facility is recommended.

How does purchase order finance work?

You would need to seek specialist PO lenders — that provide funds based on a purchase order. These lenders may want to see evidence, by the way of a confirmed purchase order, from a relatively well-known organization. Government and private sector companies are both acceptable, as long as they are in a position to pay for the goods — upon delivery.

To arrange the PO facility — details on your business will also be required. So your trading history, income statements, balance sheets, cash flow statements etc. Your credit rating will also be a factor. Lastly a supplier estimate is needed. All this information will be used by a lender — to assess your eligibility and the level of risk lending to you poses.

The level of funding received will also be based on the information provided. It is important to note, that the funds received may not be for the entire purchase order amount (70-90% of order value is common).

Should the financing be approved — funds may be paid to your suppliers directly. Alternatively, the funds may be advanced into your business bank account — where you can cover the balance (if applicable) and pay the supplier yourself.

The money lent to you will be subject to fees and interest — which will be outlined in the purchase order finance agreement. Any borrowed money will need to be paid back within the PO contract term-limit (having up to 90 days to repay is common).

The money and any charges can be repaid with cash — but are often repaid using invoice finance (against the value of the end-customer invoice). With some arrangements; the invoice financing company will collect the payment from the end-customer (factoring), while with other arrangements — it will be your responsibility (discounting).

Benefits of purchase order finance

  • Relatively easy to arrange — as long as the purchase order comes from a credit-worthy company
  • You are only charged for the number of days you use the LPO facility
  • Helps manage cash flow
  • Can enable your company to grow faster — by taking on larger orders
  • Can be used alongside other funding solutions
  • No personal guarantees needed

Limitations of purchase order finance

  • Short-term funding option
  • Costly — compared to other funding options
  • May not get 100% of the funds required
  • Normally only available for buying physical products and raw materials — not services
  • May not get financing for smaller orders
  • Money may only be used for specific purposes

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