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Managing Short Term Liabilities

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52 views10 pages

Managing Short Term Liabilities

Uploaded by

labib abdullah
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Managing Short Term Liabilities

 Any liability originally scheduled for repayment within one year.

 Short Term Debt (STD) is riskier than Long Term Debt(LTD)


STD less expensive than LTD.

Sources of ST Financing

(1) Accruals
Continually recurring short term liabilities; liabilities such as
wages and taxes that increase spontaneously with operations.
Firm’s operation increase – Accruals may increase
 Free of cost -- No explicit interest
 Control little
 Wage custom fixed by economic custom
(2) Trade Credit
The credit created when one firm buys on credit from
another firm.
 Largest single category of STD
 Spontaneous source
 Formalities Minimum
 Time - short
 May free of cost
 Marketing strategy
 Collateral
 Free Trade Credit – Credit received during the discount
Period.
 Costly Trade Credit – Trade taken in excess of free TC,
whose cost is equal to the discount lost
(3) Short Term Bank Loan
Commercial banks ,whose loans generally appear on
firm’s Balance Sheets as Notes payable, are second in
importance to Trade Credit as a source of short term
financing.
- Non spontaneous sources of Fund
- Maturity –Short term – 90 days – Max. less than 1 year

Promissory Note : A document specify the terms and


conditions of a loan, including the amount, interest rate and
payment schedule, collateral – others terms and conditions.

Compensating Balance : A minimum checking account


balance that a firm must maintain with a bank to borrow
funds.
Generally 10 to 20 percent of the amount of loan
outstanding.
Line of Credit : An arrangement in which a bank agrees to
lend up to a specified maximum amount of funds during a
designated period.

-Bank may provide – not mandatory – depends on


availability of fund
-Firm’s may use the facility – not mandatory
-Commitment fee – not necessary to pay

Revolving Line of Credit : A formal , committed line of


credit extended by a bank or other lending institution.
-When a Line of credit is guaranteed , it is called a RLC
-Bank has a legal obligation to honor a RLC
-Interest – must have to pay on loan amount
-Commitment fee – must have to pay on the unused
balance
-Firm’s may use - not mandatory
# Factors to be considered to Choose a Bank

I . Willingness to Assume Risk


- Different basic policy towards risk
- Conservative or Relaxed Lending Policy
- Personality of officer
- Deposit growing – liberal credit policy
- Large bank –Diversification more- less risky

ii. Advice and counsel


-Early/Formative stage - Providing advice
-Specified Department
-Valuable advice to customer

iii. Loyalty to customers


-Support activities at bad time
-Degree of loyalty
iv. Maximum loan size
- Banking Rules
- Govt. Regulation

v. Specialization
-Larger bank - Dept. More – Agriculture,
Real Estate, Farm loan

vi. Other Services


-Cash Management - Foreign Exchange
(3) Commercial Paper
Commercial paper is a type of unsecured promissory note issued
by large, well reputed , strong firms .

Purpose : Deficit Financing


Issuer : Well reputed business firm
Investors : Business Firms
Finance Companies
Insurance Companies
Individual
Pension Fund

Maturity : One to Nine Months, Average 5 months


Denomination : In USA $ 100000
Cost : Depends on supply and demand
# Use of Security in Short Term Financing :

Secured loan : A loan backed by collateral, for


STL may be-inventory,receivables or both.
Land,buildings,equipment inventory,marketable
securities,accounts receivables.

Unsecured loan: Loan not backed by collateral


# Accounts Receivable Financing
ARF involves either the pledging of receivables or the
selling of receivables.

Pledging receivables : Using ACR as a collateral for a


loan.

Recourse : The lender can seek payment from the


borrowing firm when receivables’ account used to secure
a loan are un collectable.

Factoring : The outright sale of receivables.


- Purchase of accounts receivable by the
lender (factor)
- buyer of the goods is notified of the
transfer and is asked to make payment
directly to the lending institution.

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