Purchase order finance (‘PO Finance’)

Purchase order finance (‘PO Finance’) is funding advanced to a supplier (from a finance provider) secured against a confirmed purchase order. It removes some of the financial pressures of fulfilling an order – especially a large order – by helping finance a transaction up until the time you raise an invoice.

You can use purchase order finance if you are a product distributor or reseller and need finance to fulfil a specific order. You can’t use PO finance if you directly manufacture products or if you just want to build inventory.

How does purchase order finance work? 

• You accept a purchase order (i.e. the form a buyer issues to a seller – your business is the ‘seller’ and your customer is the ‘buyer’)
• The purchase order becomes a legal contract
• You submit the purchase order to the PO financing company for approval
• The PO finance provider pays the supplier at cost – this payment enables your supplier to manufacture the product and deliver it to you 
• You send an invoice to your customer
• Your customer pays you
• You settle with your PO finance provider – you pay a transaction fee and interest on the money they advanced to your supplier. (You can usually use invoice finance to pay your PO finance provider if you prefer.)

It’s interesting to compare PO finance to invoice factoring and invoice discounting, where the lender advances you cash after you’ve invoiced your customers – the cash advance is secured against these invoices (usually up to 90% of their value). In other words, this cash is advanced ‘post-delivery’ – once your customer has received your product or service. Once the customer has paid in full, your lender will send you the remaining balance minus their fees. By contrast, PO finance is ‘pre-delivery’.

You might want to consider supplier finance, which is also ‘pre-delivery’.

Supplier finance has two main advantages over PO finance:

• you can use it if you are a manufacturer (unlike PO finance)
• you can use it alongside existing financing (e.g., a line of credit) because it doesn’t encumber assets (by contrast, a PO finance transaction is secured by your accounts receivable so may not work if you already have a lender in place (unless they subordinate their position).

However, supplier finance comes with a limitation: your finance provider can buy products on your behalf only up to the amount that your business can be credit insured. So you might not be able to use supplier finance for very large orders – this is where PO finance has the edge.