BUSINESS FINANCE
Sources and Uses of Funds
Supplier of Short-term Funds
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Sources of Funds
Category 1 : Firms make money by selling their products and
services for a price which is higher than what it would cost to
produce those products or to deliver the service to
customers. Firms make money when they earn profits from
business transactions. Ideally, the bulk of a firm’s funds
should come from this category.
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Category 2 : Firms can borrow money. One disadvantage of
borrowing money is the interest charges that the firm has to
pay over time. A firm with a good reputation in terms of
ability to pay its financial obligations will naturally have better
access to loans with better (lower) interest rates.
Category 3 : Firms can also seek funds from investors.
Corporations sell stocks. Partnerships and sole
proprietorships are funded by their owners in the form of
additional capital.
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Sources of Short-term Funds
Short-term loan
• Secured Loan - a loan in which another asset -- a real
estate property, for instance, or a vehicle or piece of
equipment -- serves as collateral.
• Unsecured Loan - is one in which no collateral is
required.
Advantages and Disadvantages of Short-term Loans
Short-term loans offer the following advantages to the firm:
1. Short-term loans are easier to obtain.
2. Financial institutions charge less interest on shortterm loans.
3. There is flexibility in terms of options.
The following are disadvantages of short-term loans:
1. A firm that has easy access to short-term loans may
become more relaxed in the way they manage their
working capital.
2. Firms with slow-moving inventories may end up with
an even tighter financial position.
3. Short-term loans may not be strategically aligned
with the firm’s long-term objectives.
Supplier of Short-term Funds
1. Trade Creditors
2. Commercial banks
3. Commercial paper houses
4. Finance companies
5. Factors
6. Insurance companies
7. Company accruals
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Trade Creditors
 Suppliers extend credit to a firm.
 A trade credit is unsecured.
 May require a firm to submit a promissory
note.
 Trade credits do not come without cost to
the firm as suppliers provide firms with
discounts if they settle their account early.
 Supplier offers a credit term 3/7, net 45
Commercial Banks
 considered the “department stores of
finance” because they cater to a variety of
savers and borrowers.
 also offer intermediate or medium-term
loans and long-term loans to individual and
business clients.
 An intermediate loan is a loan that will
mature in 1- 10 years.
 A long-term loan is a loan that will mature
in 10 years or more.
Finance Companies
 are firms whose line of business is to
provide short-term and intermediate loans
to both consumers and other business.
 loans granted by finance companies may
either be secured or unsecured.
Factors
 factoring is a financial service wherein a
factor purchased accounts receivables.
 collects payment on the receivables from
the company’s customers.
Company Accruals
 An accrual is an expense that has been
incurred by the firm but has not been paid.
 There are two major types of accruals:
accrued wages and salaries and accrued
taxes.
Commercial Papers
 an unsecured debt with a fixed maturity.
 Firms issue commercial papers at a discount
which serves as the interest.
 For instance, XYZ Inc. will issue commercial
papers with a face value of 10,000 each. It
will be sold to investors for only 9,000. This
means that the earning of an investor is
1,000 or 10%.
Uses of Short-term Funds
1. Seasonal increase in demand
2. Payment for short-term obligations
3. Funding for short-term projects and programs
4. Allowance for receivables
5. Funding for unforeseen events
Intermediate-term Financing
 refers to loan that will mature in more than one year
but in less than ten years
 mostly alloted for asset expansion and mediumterm projects and programs
 some firms use intermediate-term financing to
support operational needs
Providers of Intermediate-term Financing
1. Commercial banks
2. Finance companies
3. Factors
4. Insurance
5. Government
A. Commercial Banks
• Term-loan
 common type of loan which firms can
obtain from commercial bank
 granted to borrowers to be repaid within a
specific period
 normally required to make regular periodic
payments
Three types of term loans:
a. Straight-term loan - used by firms to finance the
acquisition of fixed assets, additional funds for
working capital, and repayment of other obligations.
b. Credit line - line of credit. It is an agreement
between a bank and a borrower which indicates the
maximum amount of loan that may be granted by
the bank for a specified period of time.
c. Revolving credit agreement - a committed line of
credit extended by a bank to a borrower. The
borrower is required to pay an annual fee which is a
percentage of the amount committed by the bank.
•
Term loan agreement
 formal loan agreement which covers
stipulations on the amount of the loan, the
applicable charges, the penalties in case of
default (on the part of borrower), the
repayment schedules, and other
commitments.
B. Insurance Companies
are required to reinvest a portion of the
premiums that are collected from policy holders
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the insurance companies put money back into
the system because the money they reinvest
through other financial institutions or
intermediaries serve as additional supply of
funds for individuals and firms who need to tap
additional sources of funds
C. Finance Companies
are firms whose line of business is to provide
short-term and intermediate loans to consumers
and other businesses
most finance companies set up special payment
terms when borrowed funds are for the
purchase of machinery and equipment.
D. Government
a sizeable portion of the national budget has to
be allocated to intermediate loans for firms
Republic Act 9501 requires banks and lending
institutions to allocate 10% of the funds alloted
for loans for micro, small, and medium
enterprises (MSMEs)
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Small
Enterprises
Micro
Enterprises
Medium
Enterprises
Assets before
financing:
₱3 million or
less
Assets before
financing:
₱3-15 million
or less
Assets before
financing:
₱15-100
million or less
Employ not
more than
9 workers
Employ not
more than
10-99
workers
Employ not
more than
100-199
workers
Some of the programs are very attractive to
borrowers as they are almost interest free.
The Department of Science and Technology
provides intermediate financing for small and
medium enterprises with very low or no interest
charges.
Long-term Financing
 is tapped by firms to fund their long-term capital
requirements
Long-term financing is used for the following:
a. Acquisition of machineries and equipment
b. Acquisition of furniture and fixtures
c. Building of a new plant
d. Major upgrades of facilities
e. Acquisition of an existing firm
f. To organize a new venture or additional strategic
business units
Stock Financing
 sale of stocks for the firm to raise long-term funds

when shares of stocks are sold to investors, the
effect is an increase in equity
Advantage of stock financing
a. stocks do not mature
b. stocks do not require payment of interest
c. stocks financing is not a form of debt
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Common Stock
 a type of corporate stocks issued by all corporations
 owners of common stocks have a claim to earnings
and assets after debts have been paid
 five varieties of common stock: classified common,
deferred, voting trust certificate, guaranteed, and
debenture
Preferred Stock
 Fixed dividends are paid on preferred stocks.
 Firms are only allowed a one-time issue of common
stocks while preferred stocks may be issued several
timers.
Book Value
 the stated value as reflected in a firm’s balance
sheet
 when computing for the book value, the value of the
preferred stock is deducted from the shareholder’s
equity (illustration on page 137)
Market Value
 the value of the stock when it is being traded in the
stock exchange, over the counter, or even between
financial intermediaries
Corporate Bonds
 A bond is a long-term debt either by a firm or by the
government.
 A corporate bond is a bond issued by a private
corporation to raise funds for long-term projects and
programs.
 Corporate Bonds may be issued in two different
ways: public offering and private placement.
Public offering - bonds are issued to the investing public
through investment bankers.
Private Placement - bonds are sold directly to a financial
institution.
Bonds may be distinguished from stocks by the following
characteristics:
1. When a firm sells bonds to the investing public, it
means that it will owe money to the investors. With
stocks, the investors become co-owners of the firm.
2. In the event of liquidation, holders of bonds are
prioritized over stockholders.
3. Interest payments on bonds are fixed while
dividends paid to stockholders depend on the firm’s
earnings.
4.
5.
Bonds have a fixed maturity date. Stocks do not have
a maturity date.
Owners of bonds do not have voting rights.
The 5 C’s of Credit
 Character
 Capacity
 Capital (Equity)
 Collateral
 Conditions of the loan
1. Character


applicant’s reputation
required to write down names and contact
information of references for a background
check
2. Capacity
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
this measures one’s capacity to pay
asked to list down sources of income,
expenses, and debt to measure one’s
capacity to pay as reflected by the sources
of funds and existing obligations
3. Capital (Equity)
 from the perspective of the lender, this
minimizes the risk of default
 car loan or a mortgage on a house:
required to put in a 20% down payment or
equity contribution
4. Collateral
 property that is used to secure the loan
 Long-term loans for larger amounts are
typically required to have a collateral
5. Conditions of the loan
 factors such as the amount of principal,
interest rate, and terms of payment all have
an influence on the lender’s decision to
approve or disapprove the loan application