EIGHT

Sources of Short-Term Financing

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PPT 8-1

5FIFFigure 8-1 Structure of corporate debt, 1998

35% 30% 25% 20% 15% 10% 5% 0% Accounts payable Bank loans Other short Short term term loans paper Bonds Mortgages

Source: Statistics Canada, Financial St at ist ics for Enterprises, Catalogue 61-008XPB , 3rd quarter 1998

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Foundations of Financial PPT 8-2 Management

5FIFFigure 8-2 Prime interest rate movements

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Foundations of Financial PPT 8-3 Management

5FIFFigure 8-3 Corporate short-term paper outstanding

100 90 80 b i l l i o n $s 70 60 50 40 30 20 10 0

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1975

1980

1985

1990

1995

1998

Bankers' acceptance s
Source: Bank of Canada Review, Autumn 1998.

Commercial paper

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Foundations of Financial PPT 8-4 Management

5FIFFigure 8-4 Comparison of commercial paper rate to bank prime rate*

20 18

g e
16

p e r c e n t a

14 12 10 8 6 4 2

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0 68 1970 1980 9 0 da y co mm ercia l pa per P rime 1990 1998

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* Average

interest rate at December 31

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Foundations of Financial Management LT 8-1

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Chapter 8 - Outline

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Sources of Short-Term Financing Trade Credit Net Credit Position Types of Bank Loans Corporate and Foreign Borrowing Accounts Receivable Financing Inventory Financing Longer-term Loans

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Foundations of Financial Management LT 8-2

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Sources of Short-Term Financing

There are various sources of short-term funds available to a firm: Trade Credit from Suppliers Bank Loans Corporate Promissory Notes Bankers Acceptances Foreign Borrowing Loans Against Receivables and Inventory

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Foundations of Financial Management LT 8-3

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Trade Credit from Suppliers

The largest source of short-term financing for a firm-over 50% It is usually a 30-60 day grace period before a bill is due A cash discount is often given if payment is made within a specified time Ex., 2/10 net 30 means a 2% discount is given if paid in 10 days; if not, the full amount is due in 30 days

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Foundations of Financial Management LT 8-4

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Net Credit Position

Net Credit Position: a firms Accounts Receivable (A/R) minus its Accounts Payable (A/P) if A/R is greater than A/P, it is a net provider of trade credit (positive number) if A/P is greater than A/R, it is a net user of trade credit (negative number) larger firms tend to be net providers of trade credit, while smaller firms are net users
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Foundations of Financial Management LT 8-5

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Types of Short-term Bank Loans

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Line of Credit: company is able to draw upon a yearly borrowing facility arranged in advance revolving credits are for periods longer than 1 year general purpose loans Transaction Loan: short-term loan for a specific purpose Compensating Balance: when a bank requires a minimum average account balance in order to qualify for a loan can be thought of as a form of collateral less common than in the past
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Foundations of Financial Management LT 8-6

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Corporate and Foreign Borrowing

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Commercial Paper: a short-term unsecured promissory note in minimum units of $50,000 sold (at a discount) by finance companies, other large corporations cheaper than bank loans total amount of commercial paper outstanding has increased greatly in recent years Bankers Acceptances to finance goods in transit (particularly imports) sold at a discount Eurodollar Loans: loans from foreign banks denominated in Canadian dollars are called Eurodollar loans (U.S Eurodollars predominate) foreign interest rates may be lower
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Foundations of Financial Management LT 8-7

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Accounts Receivable Financing

A/R financing includes 3 choices: pledging accounts receivable as collateral for a loan an outright sale (factoring) of receivables to a factoring company Asset-backed Securities: sale of receivables by large corporations in public offerings Tends to be a relatively expensive source of financing

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Foundations of Financial Management LT 8-8

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Inventory Financing

Inventory may be assigned as collateral security against an operating loan For example, in a Trust Receipt or Floor Planning loan is based upon serial numbers on product when goods are sold, loan is repaid used by auto dealers, industrial equipment dealers, television and home appliance dealers

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Foundations of Financial Management LT 8-9

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Longer-term Loans Term Loan (Instalment Loan): loan for 1-7 years

interest rate may be fixed or change with prime rate repaid in monthly or quarterly instalments used to buy capital assets (ex; automobiles, property)

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