Supplier Financing Definition, Importance, Advantages, Disadvantages, Example & Overview

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Definition: Supplier Financing

Supplier financing is a type of funding method which provides short-term credit to the buyer which improves liquidity and optimizes working capital for both the supplier and the buyer. Supplier financing make use of technology-based business and financing processes and links the buyer, the seller and the financing institution in a transaction. Supplier financing is a component of supply chain finance and it is also known as reverse factoring.

Importance of Supplier Financing

In the Supplier financing model, the buyer’s company partners with a supply chain financing company, also known as a factor. This company acts as an intermediary between the buyer and the supplier. Supplier financing helps in providing liquidity and in improving operation efficiency for both the supplier and the buyer as follows-

1. To the supplier, as under Supplier financing, the supplier sells its invoices at a discount to financial institutions, commonly known as factors which in turn provide supplier immediate funds, the funds which the supplier was owed by selling its products. This, in turn, helps supplier in its working capital.

2. To buyer, because now the buyer need not pay for the material supplied to it by the supplier immediately and has time to sell its products and pay to the factor as per the contract with the factor.

Supplier Financing

Advantages of Supplier Financing

1. Cash flow is one of the most important factors for efficient operations of any business. Supplier financing helps in this aspect by providing enough time to buyer to sell the products supplied by the supplier before the buyer needs to pay for them.

2. This kind of financing is not meant to replace the company’s existing financing methodology. Rather, it enhances the existing financing model.

3. Supplier financing is available on an “as-needed” basis, is easy to implement, is available to small and midsize companies and it is a convenient model for both the buyers and suppliers.

Disadvantages of Supplier Financing

1. Supplier financing is only applicable for funding of buying products and raw material. It is not applicable for overhead costs, labor costs or any other type of costs.

2. Supplier financing is only available up to the amount the company is credit insured. Thus, a good credit rating is imperative for the Company to avail the Supplier financing.

Example of Supplier Financing

For example, suppose a company A, the supplier has supplied its material to company B, the buyer. Supplier A submits his invoice to Company B and company B agrees to pay for the material supplied on a credit terms of 30 days. Now, under Supplier financing, if A requires the funds for the material supplied before the 30 days, it may request company’s B factor (Financial Institution). The factor will remit A the Invoice amount (after deducting the discount amount) on an immediate basis. Now, if the Buyer B wants to extend the repayment period from 30 days to 60 days, it may do that on credit basis with the same financial institution.

Hence, this concludes the definition of Supplier Financing along with its overview.

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