FINANCE IN A CANADIAN
SETTING
Sixth Canadian Edition
Lusztig, Cleary, Schwab
CHAPTER
TWENTY-FOUR
Short-Term Financing
Options
Learning Objectives
1. Discuss the different sources of short-term
and intermediate-term loans.
2. Identify five common features of term loans.
3. Discuss the reason for hedging through
forward or futures contracts or options.
4. Compare the informal and formal types of
trade credit.
5. Explain the role of the venture capital firm.
Introduction
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In this chapter we discuss short and
intermediate-term financing
Short-term funds are appropriate for the
financing of receivables and inventories
Intermediate-term financing is useful when
funding must be committed for extended periods
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The most common intermediate term financing is
term loans
Term loan – a loan that has a specified maturity
and cannot be called as long as the borrower
complies with the conditions of the loan
Bank Loans

Canadian Banks
 operate a national system of branch banking
 maintain a balanced portfolio of loans
 most short-term loans for business are in the
form of lines of credit secured by inventories
and receivables
 Line of credit – an open lending arrangement
with a stated maximum that a bank may be
willing to lend a customer for a set period of
time
Bank Loans
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Advantages of line of credit include:
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firms know how much bank credit can be
expected
borrowing is limited to amounts actually needed
the bank’s credit manager can make instant
advances up to the maximum amount approved
without additional applications
Rate of interest on bank loans is expressed as a
percentage above prime

prime loan rate – the interest rate banks charge
their most credit-worthy borrowers
Bank Loans
A large portion of business loans are
secured by pledged assets (equipment,
property)
 Term loans
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are secured by collateral
collateral exceeds the amount of a loan by
a margin
interest rates are often variable and tied to
the prime rate
Other Private
Financial Institutions
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Trust Companies
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most operate as subsidiaries of the major
charter banks
offer many of the same services as banks
plus estate management, pension plans,
and other trust funds
Caisse Populaires and Credit Unions
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are savings and credit co-operatives
have different policies regarding asset
management
The Money Markets
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Money markets – consist of the places and
institutions in which debt instruments with
relatively short maturities (under 3 years) are
traded
Since 1954 governments and corporations have
used money markets to obtain short-term financing
Money markets instruments sell at a discount from
face value and investors realize a return at
maturity when the borrower redeems at face value
Money Markets
Commercial Paper

Commercial paper
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Commercial paper – consists of short-term promissory
notes issued by major corporations that are well
known to investors and have excellent credit history
Issued in denominations > $100,000
Unsecured with maturities of 60, 90, and 120 days
Not subject to scrutiny of the provincial securities
commission the way long-term debt and equity issues
are
Rating agencies publish reports on the quality of
commercial paper
Commercial Paper
Bankers Acceptances
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Bankers acceptances
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Bankers acceptances – drafts or orders to pay,
drawn on a chartered bank by the firm seeking
funds
are short-term debt instruments similar to
commercial paper guaranteed by the bank
virtually default-free
issued in multiples of $500,000
issued for periods between 30 and 90 days
banks charge an acceptance fee between 1/2 to
1 percent of face value to the firm seeking funds
Securities Issued by Banks
and Trust Companies
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Certificates of deposit (CDs) – are nonredeemable, registered, transferable, interestbearing notes with maturities between one and
six years
Deposit receipts – are transferable term
deposits with maturities of between 30 and 364
days that can be cashed in at any time subject
to an interest penalty
Bearer deposit – are issues exceeding $100,000
for fixed maturities of up to seven years
Factoring
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Factors are firms that provide financing to
businesses by purchasing their accounts
receivable
Factors can provide three services:
1. taking over credit screening and collections
2. assuming the risk of bad debt
3. financing by advancing funds that would
otherwise be collected later
Trade Credit
Trade credit – is the financing suppliers
extend by allowing customers to pay for
goods or services sometime after delivery
 Reasons for the wide use of trade credit
include:
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convenience to both suppliers and
purchasers
there are no negotiations to be entered into
or detailed forms to be filled out
Trade Credit
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Major types of trade credit include:
 Open account – where the seller accepts the account

and fills the buyer’s order and sends out an invoice
Open accounts also extended under selling terms
classified by the timing of called-for payments which
include:
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cash before delivery (CBD)
cash on delivery (COD)
Cash discounts are offered to induce customers to
make prompt payments which include:
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2/10 net 30
2/10 EOM net 30
Federal Government
Programs and Agencies
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Federally guaranteed loan plans
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The federal government guarantees
reimbursement in case of default up to an
annual maximum
Business Development Bank of Canada (BDC)
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Provides credit to any industrial enterprise in
Canada provided that such credit would not
otherwise be available on reasonable terms
and conditions
For a fee the BDC will act as a guarantor for a
client dealing with private financial institutions
Federal Government
Programs and Agencies
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The Export Development Corporation (EDC)
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provides insurance to Canadian firms against
commercial and political risks when dealing in foreign
markets
offers financing services to assist exporters and to
stimulate foreign interest in Canadian technology and
products in the form of direct loans
Provincial Crown Corporations
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provide financial assistance designed to complement
the lending of private institutions and the federal
government to firms who otherwise would be unable
to obtain funding under reasonable terms
Project Financing
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Project financing
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obtained from private institutions and/or
government agencies to fund projects involving
large capital expenditures
different from traditional debt financing
because they are supported by assets and
future income stream of the project
most of the projects are financed through debt
the risks of the venture are carefully assessed
between equity sponsors and the lenders
Venture Capital
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Venture capital – unsecured term funds provided to a
non-public firm by an outsider
Private venture capital firms and government
agencies provide risk capital by buying common or
preferred shares, debt, or warrants of firms seeking
start-up capital
A venture normally terminates in one of three ways:
1. a successful public offering of shares
2. the private sale of the investment to another party
3. bankruptcy
Summary
1. Short-term credits covers loans with
maturities of one year or less. Primary
sources of funds are banks and other
financial institutions, money markets (both
domestic and international), factoring, and
trade credit.
2. Intermediate-term loans mature within one
to 10 years. Sources of intermediate-term
debt may be divided into two broad
categories: private institutions including
banks, and government agencies.
Summary
3. Most short-term bank loans are granted under
lines of credit. They may be secured or unsecured,
and the interest rate is normally quoted as a given
percentage above the prime loan rate. Although
provisions in term loans vary and are negotiable,
the following features are common:
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Most term loans are secured
Lenders often require personal guarantees from
smaller companies
Borrowers have to provide the lender with periodic
information about the operations of the firm
Summary
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Various restrictions may be imposed on the
operations of the borrowing firm in order to
strengthen the position of the lender
Interest rates charged are typically variable
and tied to fluctuations in the prime rate.
4. Money market instruments such as treasury
bills, commercial and finance company paper,
and banker acceptance, are short-term
promissory notes issued by major
corporations and governments. Most money
market securities provide returns by selling at
a discount from face value.
Summary
5. A country with lower interest rates will sell at
a forward premium relative to the currency of
a country with higher interest rates.
6. Factoring entails the sale of accounts
receivable.
7. Trade credit is an important source of shortterm funds for Canadian business. It arises
spontaneously with the purchase of goods if
payment is called for sometime after delivery.
Summary
8. Credit terms vary, and can be classified by the
timing of called-for payments and the cash
discounts provided. Datings, commonly used in
seasonal industries, allow delayed payments to
stimulate sales during the off-season.
9. Federal programs and agencies that provide
term financing include the Business
Development Bank of Canada, the Export
Development Corporation, and federally
guaranteed loan plans such as those extended
under the Canada Small Business Financing Act.
Summary
Venture capital firms provide money
for riskier equity investments that
typically entail promising start-up or
development situations.
10.