The apparel industry is populated with ambitious, creative entrepreneurs who regularly deal with conflicting demands. Trying to maintain a clothing brand’s profit in the face of constantly shifting trends and consumer preferences takes motivation, creativity and sharp financial management.
The seasonal nature of industry demand also requires apparel brands to have enough liquidity to purchase more inventory when needed. The cycle from initiation of manufacturer to payment from end buyer can be long in the apparel industry, meaning your operating capital could be tied up for months. Factoring becomes an option once you have invoiced the end buyer, but what about the months before that happens?
In this article, we’ll explain how apparel purchase order financing works to overcome these challenges.
What is Purchase Order Financing?
Demand is crucial for business growth. Whether you’re a startup or an established business, the surefire way to scale is by getting more and more people to buy your products. With an increasing stream of revenue, you can afford to grow your operations, purchase new inventory and equipment and more.
However, as any seasoned entrepreneur knows, the process is rarely this simple. No matter your size, meeting demand means spending money to fill open customer orders. This often eats into the existing capital you were hoping to invest in new products, equipment and sales, etc.
Let’s say a t-shirt brand receives an order for a much larger volume of stock than they are used to. They may not have enough cash on hand to produce the t-shirts required to fill the order. This often means the business has no choice but to decline the purchase order.
At this point, a business can use purchase order financing or ‘PO financing’. This third-party funding option allows a business to scale up by reducing the cash flow burden. The PO financing provider directly pays suppliers to fill open purchase orders, letting the business focus on scaling up.
How it works
Here’s how the process typically works for purchase order financing:
- Business applies for PO financing
- If approved, the PO financer pays the supplier to complete the order
- Supplier makes/sends the product to the customer
- Business invoices customer
- Customer sends payment directly to the PO financer
- PO financer deducts fee from payment, before sending remaining balance back to clients
Purchase Order Financing Right for Apparel Businesses?
PO financing is a strong source of funding for clothing brands. An apparel business’s demand will often be seasonal, with sales levels changing throughout the year. They also tend to outsource production to suppliers who provide the material to make the apparel, but also encounter problems waiting for payment after delivering wholesale goods to retailers.
Apparel businesses often face a trade-off between meeting customer demand, securing stable business growth and managing cash flow. Many have used purchase order financing to avoid this compromise. Yet it is not always a magic bullet. Let’s explore the key benefits and drawbacks of using PO financing for apparel businesses:
Easier capital access
Compared to a conventional bank loan, applying for PO financing can have a faster turnaround. Like other retailers, apparel businesses will not want to go through the lengthy process of applying for a traditional loan when they need to quickly complete a rapidly growing number of customer orders.
PO financing gives a clothing brand a chance to quickly grow its capacity. Due to the seasonal nature of demand, apparel businesses are often faced with large orders without the ability to manufacture enough products. PO financing providers directly pay the business’s supplier to purchase additional materials or finished goods to meet these spikes in demand.
Improved cash flow
It is common for clothing brands to wait weeks for payment from end buyers, despite having delivered products. This hurts the apparel business’s existing cash flow, often causing delays when paying suppliers to complete new orders. PO financing provides upfront payment to suppliers, reducing the burden while the business waits for customer payment.
PO financing does not apply to all kinds of expenditures. An apparel business with a larger customer base will no doubt find it a viable tool, but it is not a simple cash injection into a business. The PO financer covers the costs associated with a specific purchase order and directly pays the supplier, not the business. That way, the business can turn its focus on to other sources of revenue.
Although it offers faster capital access, PO financing is not recommended for apparel businesses operating on narrow profit margins, otherwise it will be a challenge to maintain cash flow. This has led some to argue that this option is mainly effective for large wholesale transactions with higher profit margins.
Setscale empowers apparel businesses to scale
At Setscale, our mission is to help small to medium-sized businesses reach the crucial next level. We know from experience that building a business takes time and tenacity, along with the right support. It’s for this reason that our funding solution is fast and flexible, offering easy access to capital with no fees and zero monthly interest payments.