Vendor Finance
Small and medium-sized enterprises (SMEs) are aware of the paramount importance of a healthy cash flow to manage their business. Australians have grappled with rising operating costs, driven by inflated raw prices, supply issues, fuel hikes, and inflation.
In the face of rising expenses, business owners seek solutions to sidestep significant expenditures. For instance, those purchasing assets that can work with sellers can be an arrangement that provides a flexible source of financing.
Vendor finance, also known as seller finance or trade credit, is a transaction where the vendors act as lenders, extending credit for any type of goods and services rendered. Vendor finance may seem straightforward for clients who struggle to save for an upfront expense, but certain risks are involved. Experts even note that, in some cases, the risks outweigh the potential advantages.
Before committing to any financing agreement, let’s first discuss what vendor finance is all about, the types available for Australians, and the pros and cons associated with this financial arrangement.
What is vendor finance?
Vendor finance is an arrangement between a buyer and a seller that allows a more favorable purchase timeline. It’s a business acquisition debt you and the vendor agreed upon – by setting a loan repayment term without going through a bank or lender. The vendor extends a line of credit, permitting the forging a mutually beneficial relationship through regular, manageable repayments.
When you operate in the retail sector, manufacturing industry, or any other service sector, securing funds for equipment can be the difference between accelerated growth or accruing huge debts. Vendor finance allows the seller to lend money to pay for part of the purchase price.
How does vendor finance work?
Vendor finance involves these steps:
- Your SME agrees with a lending institution that offers vendor finance;
- You can place an order with your vendor and request a credit line – to pay for the goods or services later;
- The lender pays the vendor on behalf of your business;
- The SME will have a fixed repayment scheme, typically with higher interest.
For example, say you agreed to buy restaurant equipment for $200,000. The remaining amount is still hefty, but if the vendor agrees, you may only pay a fraction of that cost (e.g., $ 50,000) and then make monthly payments for a given set of years until you complete the payment with an interest rate (e.g., 8%).
You essentially make the purchase, and the seller will lend money via credit line to pay for part of the purchase price. Vendor finance enables both parties to close the deal based on set financial agreements. If you need more time to save up for your deposit and need to rent instead, you have the option to do so. This financing applies to business purchases, supplies, and even renovations.
Whichever industry you are in, Intellichoice is your trusted partner in accessing the best vendor finance options available today. Securing an agreement with your vendor can allocate your working capital to other essentials. Talk to our team of dedicated business loan professionals about vendor finance.
What are the different types of vendor financing?
No deposit vendor finance
This is also called no down payment or deferred payment financing. With this arrangement, you can purchase assets without an upfront lump sum to impact your capital. Of course, there is a premium to enjoying the zero upfront payment – monthly repayments for the equipment or technology you purchase will be higher than other forms of finance, often between 5% and 12% rate.
Standard vendor finance (installment)
This type allows SMEs to work with a private investor to help purchase pricey assets (e.g., vehicle, machinery). The investor negotiates to try to buy it for less than the market value and then sells it to you, the eventual buyer at a higher price, with an extended settlement.
The buyer will then pay the investor in installments over a couple of years, depending on the agreed timeline. This gives time for you to qualify for a business loan and refinance the remaining amount.
Rent to own / rent to buy
Rent-to-own vendor finance means the supplier will lend you their equipment on an installment basis.
Clients have the option to purchase the property after the rental period. The price is usually higher than the market price, but it can be a good option for those who want to “lock in” a specific equipment or asset while waiting to gain a standard business loan after a few years.
Another advantage of rent-to-own is that the supplier will not require credit checks as a traditional business loan route would, and you can take your time to complete the payment. It’s useful for people who can’t get approved for a loan amount.
But note that rent-to-own agreements usually come with terms that benefit the lender much more than buyers. Working with a business loan professional helps you pick a provider that offers competitive and practical terms.
Do lenders offer vendor finance?
Vendor finance is less common than other types of loans, mainly because the agreement mode in the process lies primarily between the vendor and the buyer. The terms will be negotiated between you and the seller directly, which means there are no hard and fast rules that the financial market could use.
Lenders will insist that they serve as the senior lender on the balance sheet – meaning their loan repayment takes precedence over repaying the seller. And if you can refinance quickly, you may have more favorable terms with the vendor.
Why sellers have the advantage
Most owners would consider vendor finance because the terms are highly favorable for them, more so than the borrowers. For one, they can command higher loan rates as the installment plan may not be available in other settings.
Equipment or service providers who do not need the proceeds from the equipment or any other asset being sold can agree to finance installments or zero-deposit purchases. Vendors do not mind if it is paid off over time as it will earn interest and be priced at a higher rate.
As with other types of transactions, the vendor’s flexibility will allow for a more favorable value on the property. This is the premium buyers pay in return for the financing and the more extended repayment period that vendor financing provides.
Pros of vendor finance
Access to business equipment – Buyers who may face challenges obtaining traditional bank financing, such as those with lower credit scores and those who have yet to save a significant amount of genuine savings, can access business products and property through vendor finance.
Flexible terms – Vendor finance allows for closer negotiation of terms between the seller and buyer, potentially offering more practical repayment options despite higher prices. It allows you to commit to a more ideal timeline for buying business machinery, inventory, or services.
Streamlined Process – The absence of extensive bank procedures and credit checks can expedite the purchase process. Buyers can make arrangements directly with the seller, and then plan for refinancing later into a standard business loan.
What are the cons?
It costs more – You’ll have to pay 10-20% more than what the investor paid for the product or service. While this is an upside for sellers, vendor finance will require more payment (in cost and interest) from the buyer.
Vendor holds the cards – In most cases, the ownership remains in the hands of the vendor, which means the vendor has control over the interest rate to be placed on the loan. Vendors can also impose harsh penalties if you miss any repayment.
Limited industries – Lenders that offer vendor financing sometimes restrict their lending to specific industries (e.g., manufacturing, tourism, car rental, etc). Hence, not all businesses can benefit from this arrangement.
No ownership – In a vendor financing, the purchase price and interest added for repayments make the total price much higher than if you were to buy the product straight away. Even though your company can distribute the repayments over years, it may make it harder to build capital because you won’t own the asset until it is paid off completely.
Talk to us about vendor finance
Vendor finance offers an alternative option for business equipment and services, catering to buyers who want to move away from traditional business loans.
Even though it provides flexible opportunities for those who may struggle with conventional bank loans, buyers must carefully evaluate terms and potential risks associated with vendor finance. There are major considerations that make things riskier for buyers, so as with any financial decision, it’s best to conduct due diligence and work with loan professionals to make things clear for you.
Our brokers are always here to discuss solutions with you, so call us any time to get started.
