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Start-ups and small businesses often face liquidity crunch and cash flow challenges, which sometimes prevent them from accepting new and large customer orders. With vendor finance, small businesses easily obtain trade credit without paying upfront for the goods. The vendor gives a line of credit to its customers based on their rapport to pay for the product after a certain period of time.
What is Vendor Financing?
The term vendor financing is defined as the lending of money by a vendor to a customer. The customer further uses this money to buy the vendor’s inventory or service. Vendor financing arrangements can also be used in a form of deferred credit payments. Under deferred payment, the borrower will not be obliged to pay for their purchases in full at the time of purchase. Vendor financing is built on the foundation of trust between the two parties and thus strengthens the relationships between vendors and business owners.
Types of Vendor Financing
There are two kinds of Vendor Financing: Debt financing and Equity Financing
Debt Financing
In debt financing, the borrower receives the products or services at a sales price inclusive of an agreed interest charge. The interest charge accrues as time progresses. In this form of vendor financing, the borrower either repays the loan or the debt is simply written off as a bad debt. In case a bad debt happens, the borrower can’t be allowed to enter into another debt vendor financing arrangement with the vendor.
Equity Vendor Financing
Whereas, in equity vendor financing, the vendor provides the goods or services needed by the borrower in return for an agreed amount of the borrower’s stock. As the vendor is paid in shares, the borrower does not have to make cash repayments.
Features of Vendor Finance:
Vendor Finance is a kind of short-term lending facility through which a company lends money to borrowers to buy vendors’ inventory, products, or property. This facility can be availed at both stages of production – manufacturing or the post-manufacturing stage.
Let’s have a look at its features:
- Credit facilities offered to large corporates
- Quick capital sanction
- Minimal documentation
- Earns an interest rate on the funded amount
- Great short-term working capital
- Flexible repayment options
- Works on Memorandum of Understanding (MoU) between corporate and bank
- The loan amount depends on business requirements
Benefits of Vendor Finance:
Vendor finance helps startups with limited funds to kickstart their business processes. Since they secure the product and financing from the same vendor, therefore the borrowers acquire the loan on better terms, lower upfront costs, and ease of access.
Benefits to the Vendor:
1. One of the foremost benefits of vendor financing is that the vendor continues to receive interest payments from the business profits even after the company is sold off. In case the borrower defaults on the loan repayment, the vendor reserves the right to sell assets of the company to recoup the unpaid amount or repossess the business.
2. The vendor has a high level of control over the transaction which enables the vendor to obtain a higher sales price.
Benefits to the Borrower:
1. In vendor financing, the borrower does not need to use personal funds to finance the asset or business purchase.
2. Flexible repayment options with a credit limit of upto 90% of the invoice.
3. In spite of bad credit scores, vendors still have the chance to get finance easily as compared to business loans.
4. Streamlined process and less documentation, in comparison to other financial institutions.
How does Vendor finance work?
When the vendor and the borrowing company enter into a vendor financing agreement, the borrower is required to make an initial deposit. Once the vendor receives the deposit and the borrower agrees to their terms, the vendor initiates to make the delivery of the agreed goods. The borrower gets the privilege to pay off the balance of the loan, plus any accrued interest over an agreed period with regular repayments. The rate of interest may vary from 5% to 10%, depending upon the agreement between the two parties.
Example of Vendor Financing:
Imagine that Krishna Pvt. Ltd. is willing to purchase inventory from Parveen Pvt. Ltd. at the cost of Rs. 10 lakhs. However, Krishna Pvt. Ltd. has limited capital to finance the transaction. Krishna Pvt. Ltd. can only pay off Rs. 3,00,000 in cash and must borrow the rest. Now, Parveen Pvt. Ltd. is willing to enter into a vendor financing arrangement with Krishna Pvt. Ltd. for the remaining Rs. 7,00,000.
Parveen Pvt. Ltd. is charging 8% interest and requires the debt to be paid within the next 12 months. The vendor is also willing to use the inventory as collateral for the loan to protect against default.
How can Mynd Fintech Help?
Here at Mynd, we help you raise locked-in receivables early basis invoices confirmed by the respective customers and improve your cash cycle. Our vendor finance services enable qualifying vendors to discount confirmed documents. We sanction loan limits of upto INR 100 crores per Corporate and up to INR 5 crores per vendor. Repayment options are flexible upto 120 days of an invoice.
So, what are you waiting for? Evaluate your prospects of getting a Vendor Finance at Mynd for the best deals.
Vendor Finance FAQs
Q1. What is the difference between vendor financing and dealer financing?
Ans. In vendor financing, an individual or company that supplies goods or services to the customer finances their order. Whereas in dealer financing, an individual who specializes in the resale of a particular product from the manufacturer offers loans to the customers. Therefore, he/she acts as a middleman between the producer and the consumer.
Q2. What is vendor mortgage?
Ans. A vendor mortgage is a unique kind of mortgage that allows the seller of the property to become the lender for the buyer. However, the buyer would still require to make regular payments to the seller. Generally, the higher interest rate is set by the seller and agreed on by the buyer.
Q3. What is the difference between a lender and a vendor?
Ans. A lender is an individual, a financial institution, or a public or private group, that makes funds available to a person or a company to buy assets or invest in a business. A vendor is a person or a company that sells goods or services for a profit. He/she may also lend money to a customer to buy their goods or services.
Q4. Who is eligible for Vendor Finance?
Ans. To be eligible, you must be between 24 and 70 years old, be an Indian national with a CIBIL score of 685 or higher, and have been in business for at least 3 years from the date of registration.
Q5. What is the common documentation required by suppliers in Vendor Finance?
Ans. Details of the business profile and projection, KYC documents, current account Bank Statements of the last six months, and financials of the last 2 years are the common documents required by suppliers in Vendor Finance.
Q6. How does Vendor Finance affect ‘suppliers’ and ‘buyers’ relationships?
Ans. A vendor financing arrangement helps enhance the relationship between vendor and customer, as it results in mutual benefits. It maintains transparency between the two parties and enables them to maintain a healthy relationship between the two members.