The misconceptions surrounding supply chain finance, trade finance and purchase order finance have grown since the misuse of terms.
Providers are quick to market products across a broad spectrum of “keywords”” to attract potential prospects, confusing business owners, often resulting in inconsistent and mismatched debt facilities. Even business development managers (BDM) struggle to understand explanations or articulate between the terms forcing salespeople to expend even more energy getting to the right prospects that result in funded clients.
How is traditional supply chain finance described?
Supply chain finance (SCF) requires a software platform and an external finance provider which settles supplier invoices in advance of the invoice maturity date. The funds are provided to accelerate working capital, giving a lower financing cost (in some circumstances) than the suppliers’ own ability to raise funds off its credit.
After ordering from a supplier, that supplier then fulfils the order and invoices a large corporate buyer. The buyer then approves the supplier’s invoices and confirms that it will pay the financial institution for these at invoice maturity. The supplier sells (discounts) the invoices to the financial institution at a predetermined discount rate and receives the funds immediately. The buyer pays the financial institution as agreed at the maturity of the invoice often 30-120 days later.
For supply chain finance to operate, a supplier must have delivered a product and have approval from the buyer to obtain the advance of funds for a discount on the full sale price.
How does purchase order finance differ?
Purchase order finance (PO Finance) is funding against the end buyers credit strength and purchase order to cover all pre-shipment (or delivery) inventory, manufacturing, shipping and logistics to get goods delivered.
Funding is provided well in advance of delivered goods, creating enormous value for a supplier to capture profitable orders otherwise left behind.
Most importantly it injects the necessary capital well in advance of a traditional SCF program that only advances upon delivery and acceptance and is commonly used when a large customer order outstrips a suppliers ability to fund, perform and deliver.
PO funders are highly transactional high touch operations that maintain expertise across a highly specialised area of “investment-based” financing, which is why so few exist in Australia. PO Finance is a form of supply chain finance, though it should not be marketed as SCF due to cross over and the stark contract of when funds are injected into the procuring, trade to pay cycle.
Two common scenarios-
Contract manufacturing (commonly overseas):
The business owner is outsourcing manufacturing of the product. Some form of credit enhancement, such as a letter of credit (LCs) or cash funding, is required to pay the third-party manufacturer for the finished product.
Used by local manufacturers or assemblers that procure the necessary components and/or raw materials to “make” or “build” a finished product either in their own facility or using sub-contractors or assemblers.
What is not PO finance?
PO finance is not an over-advance on inventory or other forms of traditional collateral, nor is it utilising the invoice factoring credit balance and lending more on accounts receivable (going deeper into credit on the same asset).
Finally, it is not obtaining outside additional collateral to support the lend required. PO funders may ask for credit enhancements such as second mortgages or P&E if a clients supply chain has apparent risks that are unable to be managed during the trade cycle. These risks may be due to lower buyer credit quality or funding deposits to third-party factories.
Can PO Finance and SCF work together?
Larger corporate buyers often have an SCF program in place to shorten the payment cycle. PO funders will provide the necessary working capital and transaction management to get goods delivered into an SCF program to reduce the pay gap.
The SCF advance results in immediate replenishment of the PO funding line of credit and most cases, the discount accepted is worth capturing further profitable sales.
There are many providers in the market that can lend funds based on traditional assets, however fewer lenders that have the appetite to help business owners capture incremental sales and profits by funding based on the strength of their ability to secure strong sales orders.
Need help funding inventory or manufacturing operations? Ask Stak.
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We regularly share our thoughts on trade finance, lending, procurement, logistics, and international trading.
Stak provides working capital to clients that sell to some of the largest buyers in Australia & overseas.