INTERMEDIATE TERM
FINANCING
INTERMEDIATE TERM
FINANCING
• Intermediate term financing refers to
borrowings with repayment schedules of more
than one year but less than ten years. In
contrast, short-term financing has a repayment
schedule of less than one year, while long-term
financing matures in ten years or longer.
ADVANTAGES OF INTERMEDIATE
TERM FINANCING
• Intermediate term financing offers the following advantages to
the firm:
– It provides a useful alternative when the firm is unable to
continue expanding assets with internal or short-term
funds;
– It provides a source of funding for small businesses which
do not have ready access to capital markets;
ADVANTAGES OF INTERMEDIATE
TERM FINANCING
• It provides an alternative which at times
may be less costly and more convenient
than the raising of funds through the
flotation of bonds or stocks in capital
markets;
ADVANTAGES OF INTERMEDIATE
TERM FINANCING
• Tax advantages are sometimes derived from the exercise.
For instance, when a stock issue is used to finance the
firm’s operations, the resulting dividends paid to
stockholders are not exempted from tax. Interest on term
loans, on the other hand, is tax deductible; and
ADVANTAGES OF INTERMEDIATE
TERM FINANCING
• Intermediate term financing allows the
firm to borrow funds with only the
amounts needed at each stage of
financing as required. In effect, the cost
of borrowing is minimized as interest will
have to be paid only on the actual amount
borrowed.
TERM LOANS BY PRIVATE FINANCIAL
INSTITUTIONS
• Intermediate term financing is provided
by private commercial banks, finance
companies, factors, insurance, and preneed companies.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Private commercial banks (PCBs) constitute an
easily identifiable source of term loans. The
extensive network of branches of PCBs
provide easy access to intermediate term
credit.
– Examples of banks with branches spread all over
the Philippines are the Philippine National Bank
and Metropolitan Bank and Trust Company.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Term Loan Defined. A term loan is a
bank advance for specific period
(normally one to ten years) repaid, with
interest, usually by regular periodic
payments.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Types of Term Loan. There are three
types of term loan:
– Straight term loan;
– Revolving credit; and
– Evergreen credit.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The straight term loan is granted to
finance fixed assets. It is also granted to
find permanent working capital needs and
to temporarily replace liabilities incurred
prior to truly long-term financing. The
limit for straight term loan is ten years.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The revolving credit is a legally assured line of credit,
normally extended for two or three year time periods.
This is a specific type of line of credit. A line
of credit and revolving credit are financial
arrangements made between the lending institution
and a business or an individual. The lender provides
access to funds that you can use at your discretion to
make purchases.
• Credit cards - example of revolving credit used by
consumers.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The evergreen credit is a revolving credit
arrangement without a stated maturity.
• Evergreen loans are usually in the form of a
short-term line of credit that is routinely
renewed leaving the principal remaining
outstanding for the long term.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Term Loan Agreement. Formal loan
agreements are required in the granting of
term loans. The loan agreements include
the basic features of the loan, such as
repayment schedules, interest rates, and
maximum commitments.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The more common provisions of a loan agreement
are the following:
– The borrower is required to maintain a certain
amount of working capital or a given current
ratio. The purpose of this is the maintenance of
a liquidity level enough to repay loan and with
sufficient funds for the working capital
requirements of the firm.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The borrower is required to furnish the bank of
the creditor with audited annual financial
statements and detailed direct quarterly or
monthly statements. This requirement allows the
creditor to assess the financial prospects of the
borrower and to provide ample warning for the
creditor to protect his interests.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The borrower is prohibited to sell or
dispose his business property, except
inventories. The prohibition also includes
the pledging of assets to secure other
loans.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Restrictions are imposed to the borrower
regarding cash dividends and a ceiling on
officers’ salaries is imposed.
• A restriction is imposed on the borrower
regarding the expansion of fixed assets beyond
the amount of the term loan. This will prevent the
firm and the lender from assuming higher risks
brought about by expansion programs.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• The borrower is required to provide ample
insurance coverage to his business properties and
key employees. When losses due to perils occur,
the borrower is in a better position to settle his
obligations than when his business properties and
key employees are not adequately covered by
insurance.
Term Lending by Private Commercial Banks
• The borrower is prohibited from
incurring additional long-term debt or
additional lease obligations.
• The borrower is not allowed to
repurchase the company’s own stock.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Repayment of Term Loans. The repayment of
term loans depends upon the nature of the
business of the borrower. Majority of ordinary
business term loans require equal periodic
payments over the life of the loan in amounts
adequate to retire the full amount of the principal.
The payment schedule is based on the borrower’s
projected ability to generate cash.
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Repayment programs for term loans vary. They
consist of the following:
– Equal Principal Payments. Under this
arrangement, the loan is repaid in equal
amounts of principal. The installments are
unequal, however, because the interest payment
is largest in the first year and become smaller
as the principal is gradually paid.
Sample Problem
• Assume a P100,000 loan payable in 10
years at 8% annual interest
Repayment of
Total Payment
principal at
at the end of
the end of the
the year
year
Year
Outstanding Principal
at the beginning of
the year
Interest due
at the end of
the year
1
100,000
8,000
10,000
18,000
2
90,000
7,200
10,000
17,200
3
80,000
6,400
10,000
16,400
4
70,000
5,600
10,000
15,600
5
60,000
4,800
10,000
14,800
6
50,000
4,000
10,000
14,000
7
40,000
3,200
10,000
13,200
8
30,000
2,400
10,000
12,400
9
20,000
1,600
10,000
11,600
10
10,000
800
10,000
10,800
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Equal Amortization. The loan is repaid in equal
installments under this type of repayment. The
amount applied to principal is smallest in the first
year, then the same payments to principal
gradually increases through the payment years,
the largest of which is made on the last year. The
decreasing payments on interests, however,
equalizes the uneven payments on principal.
Repayment of
Total Payment
principal at
at the end of
the end of the
the year
year
Year
Outstanding Principal
at the beginning of
the year
Interest due
at the end of
the year
1
100,000
8,000
6,902.95
14,902.95
2
93,097.05
7,447.76
7,455.19
14,902.95
3
85,641.86
6851.35
8051.60
14,902.95
4
5
6
7
8
9
10
14,902.95
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Balloon Payment. Under this repayment
program, the loan is repaid in equal
installment for a number of years, then, a
large and final payment is made at
maturity date.
Repayment of
Total Payment
principal at
at the end of
the end of the
the year
year
Year
Outstanding Principal
at the beginning of
the year
Interest due
at the end of
the year
1
100,000
8,000
6,902.95
14,902.95
2
93,097.05
7,447.76
7,455.19
14,902.95
3
85,641.86
6851.35
8051.60
14,902.95
4
5
6
7
8
9
28,701.97
TERM LENDING BY PRIVATE
COMMERCIAL BANKS
• Deferred Payment of Principal with
Grace Period. The payment of principal
under this program is deferred, although
payments on interest are made. This
repayment program suits loans to finance
projects with long gestation periods like
new orchard projects and livestock
projects.
Repayment of
Total Payment
principal at
at the end of
the end of the
the year
year
Year
Outstanding Principal
at the beginning of
the year
Interest due
at the end of
the year
1
100,000
8,000
8,000
2
100,000
8,000
8,000
3
100,000
8,000
8,000
4
100,000
8,000
5
6
7
8
9
10
11,207.20
19,207.20
• A variation of the deferred payment plan
allows the borrower a grace period during
which the payment of principal and interest
is deferred.
Year
Outstanding Principal
at the beginning of
the year
Interest due
at the end of
the year
1
100,000
8,000
2
108,000
8,640
3
116,640
9,331.20
4
125,971.20
10,077.69
5
136,048.89
10,883.91
6
7
8
9
10
Repayment of
Total Payment
principal at
at the end of
the end of the
the year
year
18,616.09
29,500
TERM LENDING BY INSURANCE
COMPANIES
• Insurance companies are important source of term
loans. The premiums generate constitute advances
to the insurance companies for periods varying
from six months to five or more years. This gives
rise to funds held for policy holders by the
insurer, funds that must be invested in some
manner.
TERM LENDING BY INSURANCE
COMPANIES
• The Insurance Code specifies the areas of
investments allowed for insurance
companies. Intermediate term lending is
included in the provision.
TERM LENDING BY FINANCE
COMPANIES
• Business firms may also obtain intermediate or
medium-term financing from finance
companies. Funds which ma be derived from
such borrowings may be used form the
following purposes:
– As additional working capital;
– For the purchase of machinery and
equipment;
TERM LENDING BY FINANCE
COMPANIES
• For the construction of additional plant
facilities;
• For the retirement of maturing securities;
• For buying out partners or stockholders;
and
• For the purchase of other companies.
TERM LENDING BY FINANCE
COMPANIES
• Finance companies have developed special
installment financing plans for firms acquiring
machinery and equipment. Under the
arrangement, a down payment s required and the
balance is paid to the finance company in
installments designed to fit the needs and
depreciation schedule of the firm buying the
machinery and equipment.
TERM LENDING BY THE
GOVERNMENT
• The government seeks to identify investment
areas which require financial assistance. This is
done for the purpose of achieving development
objectives. To realize this, the operations of
certain kinds of business firms are financed by the
government. A sizeable portion of the loans
granted are intermediate term.
TERM LENDING BY THE
GOVERNMENT
• Most of the financial assistance provided by the
government are coursed through private and
government financial institutions. The funding
schemes are designed and redesigned from time to
time to suit the government’s particular objectives
in development. The Guarantee Fund for Small
and Medium Enterprises is an example of such
funding projects.
TERM LENDING BY THE
GOVERNMENT
• Government financial institutions have become
sources of intermediate loans. Among them are
the Land Bank of the Philippines, the
Development Bank of the Philippines, the Social
Security System, the Government Service
Insurance System, and some others.