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Finance
March 10, 2024
Distributor financing is an established method of providing credit, presenting a viable business model for lenders. This method bridges the gap between manufacturers, suppliers, and distributors, accelerating trade and value creation.
Say a distributor intends to buy goods from a large manufacturer like Dangote Cement but doesn’t have the money, a bank or lender steps in to provide the loan to the distributor to fund the purchase of cement directly from Dangote. Dangote then releases the cement to the distributor, who pays back the loan with interest after selling the goods.
Inventory financing for distributors works along the entire value chain – from large to small-scale distributors. But it can also be a risky business model, ridden with high risks of distributors defaulting on their payments through diversions after the goods are sold or when a manufacturer never delivers the goods after they have been paid.
Let’s go through exactly how to mitigate these potential risks and successfully use the Lendsqr loan management software for distributor financing.
Firstly, you must be a licensed lender to be able to do distributor financing. The license required differs from country to country and could also be a function of the capital requirements.
Set up an account as a lender on Lendsqr. You can use Lendsqr for free if you are a small-scale lender but the features required for distributor financing may require a subscription.
Distributor financing thrives on collaboration. To unlock its full potential, you will need to build strong partnerships with reputable manufacturers. You will find opportunities to network and build partnerships at trade conferences and shows. Alternatively, you can research and directly reach out to reputable manufacturers in the industries you wish to operate. And as with any healthy relationship, open communication and transparency are key.
When setting up your loan, be sure to set it up as third-party disbursement which allows lenders to disburse loans to third parties directly on behalf of the borrower/distributor. Part of what is set up on your loan product is Lendsqr’s configurable loan forms with fields for information like the distributor’s order numbers. What this does is send the information to the manufacturer’s ERP to confirm the distributor order exists and has issued an invoice to the customer. Enterprise Resource Planning is an application that allows manufacturers to manage and automate business operations including supply chain.
When the loan has been approved, funds are sent directly to the manufacturer (not the distributor).
Repayment
The system automatically goes for loan repayment using the direct debit mandate set up for the loan. Where the money cannot be collected immediately, Lendsqr informs the lender, but also relentlessly goes after the distributor’s account many times a day until the entire amount is collected.
Now, how can you manage the risks of distributor financing? Let’s show you.
Large-scale manufacturers may have ERPs to verify distributors and confirm orders, but small players may not. This is why having a primary and direct relationship with manufacturers/wholesalers is crucial since they possess key insights into a distributor’s profile and order information.
It is easy for opportunities for fraud to arise. Distributors may pocket the profits after selling the goods, manufacturers may receive funds for goods never sent. To maintain control and protect your loan business from fraud, never disburse the funds directly to the distributor.
Another risk to be wary of is that a distributor could create a fake company or fake orders, collect your money, and disappear. Mandate that your distributors provide invoices for verification. Your pre-established relationships with manufacturers would be incredibly useful here.
Distributors are not the only ones capable of fraud. Manufacturers can also inflate the prices of goods, and keep the difference between the actual cost and inflated amount received from the lender. So, research the typical cost of goods you want to finance or use third-party checks if necessary. Another effective strategy is to include audit clauses in your finance agreements that allow you to check the manufacturer’s pricing if issues arise.
Granted it may be hard to trust someone even after running thorough checks, especially after disbursing an unusually large amount of loan. Hence, a fitting buffer would be to ensure the distributor provides collateral. Set a maximum loan-to-value for the financed goods so you can get a good chunk of your money back if the distributor defaults on the loan. This makes sure the assets you seize are equal to the value of the disbursed loan.
Distributor financing is a tight-knit triangle relationship. You need to know the distributors affiliated with the manufacturer, and the manufacturer has to know about the distributor you are paying upfront for. So, your list of distributors must come from the manufacturers. This will help speed up your loan approval process and make sure you are working with reliable vendors within the manufacturer’s network.
When dealing with physical goods, make sure the distributor has insured them and has a tracking system to monitor transport and delivery. On occasions when the goods are stored in a warehouse, verify proper insurance financing by requesting a Certificate of Insurance from the warehouse or contacting the insurance company directly.
Not only do the goods in transit and storage need protection but the distributors buying and transporting need protection, especially smaller players who do not have as much money as others. They are the agents protecting the operational inventory flow and return on investment. If anything happens to them – sickness, victims of robberies, etc. – your business would be affected.
If distributors do not have the funds to buy goods from manufacturers, neither of them sells nor are you able to service loans. But with distributor financing, a trade happens and value is created.
In addition, it is faster and sometimes even cheaper than other avenues distributors try to look for money. When run successfully, manufacturers benefit from faster inventory movement, lower credit risk, and a wider distributor network.
With Lendsqr, lenders would have access to their lists of trusted distributors, service creditworthy customers, earn attractive returns on investments from the interest paid on loans, and ultimately scale their businesses.
If you would like to explore this further and need the best loan management software to diversify your portfolio, simply reach out to us at [email protected]
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