Vendor Financing – What is it?
WHAT IT IS:
Vendor financing is lending to a customer by directly paying the Vendor or Supplier.A loan from one company to
another which is used to buy goods from the
company providing the loan. In this way, the vendorincreasessales, earns interest, and may sometimes also acquire an interest in the customer. This increases the riskprofile of a company if it is carried out on a large scale, since many companies do not have the skill to conduct credit analysis. Large, creditworthybuyers are unlikely to make use of this arrangement, since they will be able to borrowmoney at lowerrates from other sources.
HOW IT WORKS (EXAMPLE):
Let’s say you plan to purchase inventory from Company XYZ for $2 million. You only have $200,000 in cash and want to pay Company XYZ over time for the rest. Company XYZ offers to lend you $1.8 million at 5% interest to make the rest of the purchase. In many cases, the vendor might require collateral (i.e., the inventory or a claim on your cash accounts, for example) to ensure that you pay.
WHY IT MATTERS:
Vendor financing is a great way to acquire inventory, but it usually requires a solid relationship between the buyer and seller. From the vendor’s perspective, it may not be paid for a sale right away, but receiving the cash over time is often better than not receiving it at all (plus, they receive interest on the loan). When vendors are selling high-price items such as cars to auto dealers or medical equipment to hospitals, vendor financing becomes a crucial sales advantage.
In some cases, new buyers are especially dependent on vendor financing if they cannot qualify for bank loans or other financing to acquire inventory.