Current Liabilities Management
Management need to know the
sources of short-term loans so that if
short-term financing is needed, you
will understand its availability and
cost.
Spontaneous liabilities
• Spontaneous liabilities arise from the normal course
of business.
• The two major spontaneous liability sources :
accounts payable and accruals.
• As a firm’s sales increase, accounts payable and
accruals increase in response to the increased
purchases, wages, and taxes.
• There is normally no explicit cost attached to either
of these current liabilities.
Accounts Payable Management
• Accounts payable are the major source of
unsecured short-term financing for business
firms.
• The firm’s goal is to pay as slowly as possible
without damaging its credit rating.
Analyzing Credit Terms
• Credit terms offered by suppliers allow a firm to
delay payment for its purchases.
• However, the supplier probably imputes the cost of
offering terms in its selling price.
• Therefore, the firm should analyze credit terms to
determine its best credit strategy.
• If a cash discount is offered, the firm has two
options: to take the cash discount or to give it up.
Taking the Cash Discount
If a firm intends to take a cash discount, it should pay
on the last day of the discount period.
Lawrence Industries purchased $1,000 worth of merchandise on
February 27 from a supplier extending terms of 2/10 net 30
EOM. If the firm takes the cash discount, it will have to pay
$980 [$1,000 - (2% x $1,000)] on March 10th, saving $20.
Giving Up the Cash Discount
If a firm chooses to give up the cash discount, it should
pay on the final day of the credit period.
If Lawrence gives up the cash discount, payment can be made on
March 30th. To keep its money for an extra 20 days, the firm
must give up an opportunity to pay $980 for its $1,000
purchase, thus costing $20 for an extra 20 days.
Cost =
2%
x
100% - 2%
365 = 37.24%
30 - 10
The preceding example suggest that the
firm should take the cash discount as
long as it can borrow from other sources
for less than 37.24%. Because nearly all
firms can borrow for less than this (even
using credit cards!?) they should always
take the terms 2/10 net 30.
Using the Cost of Giving Up the Cash Discount
Mason Products has four possible suppliers, each offering
different credit terms.
Table 15.1 on the following slide presents the credit terms
offered by its suppliers and the cost of giving up the cash
discount in each transaction.
If the firm needs short-term funds, which it can borrow from its
bank at 13%, and if each of the suppliers is viewed separately,
which (if any) of the suppliers discounts should the firm give
up?
Approximate cost of giving up cash discount:
CD x 365
N
Table 15.1
Effects of Stretching Accounts Payable
• Stretching accounts payable simply involves paying bills as
late as possible without damaging credit rating.
• This can reduce the cost of giving up the discount.
Lawrence Industries was extended credit terms of 2/10 net 30
EOM. The cost of giving up the cash discount is 36.5%. If
Lawrence were able to stretch its accounts payable to 70 days
without damaging its credit rating, the cost of giving up the
cash discount would fall from 36.5% to only 12.2% [2% x
(365/60)].
Three main sources of short-term funds:
1. Trade credits, borrowing form suppliers
2. Bank loans, borrowing form banks
3. Commercial paper, selling short-term debt
securities in the open market
Unsecured Sources of Short-Term Loans: Bank
Loans
• The major type of loan made by banks to businesses
is the short-term, self-liquidating loan which are
intended to carry firms through seasonal peaks in
financing needs.
• These loans are generally obtained as companies
build up inventory and experience growth in
accounts receivable.
• As receivables and inventories are converted into
cash, the loans are then retired.
• These loans come in three basic forms: singlepayment notes, lines of credit, and revolving credit
agreements.
Loan Interest Rates
– Most banks loans are based on the prime rate of
interest which is the lowest rate of interest
charged by the nation’s leading banks on loans to
their most reliable business borrowers.
– Banks generally determine the rate to be charged
to various borrowers by adding a premium to the
prime rate to adjust it for the borrowers
“riskiness.”
Fixed & Floating-Rate Loans
– On a fixed-rate loan, the rate of interest is
determined at a set increment above the prime
rate and remains at that rate until maturity.
– On a floating-rate loan, the increment above the
prime rate is initially established and is then
allowed to ‘float’ or vary with prime until
maturity.
Method of Computing Interest
– Once the nominal (stated) rate of interest is established,
the method of computing interest is determined.
– Interest can be paid either when a loan matures or in
advance.
– If interest is paid at maturity, the effective (true) rate of
interest—assuming the loan is outstanding for exactly one
year—may be computed as follows:
Interests
Amount borrowed
– If the interest is paid in advance, it is
deducted from the loan so that the
borrower actually receives less money than
requested.
– Loans of this type are called discount loans.
The effective rate of interest on a discount
loan assuming it is outstanding for exactly
one year may be computed as follows:
Interest
Amount borrowed - Interest
Example:
Booster Company, a manufacturer of athletic
apparel, wants to borrow $10,000 at a stated
rate of 10% for 1 year. If interest is paid at
maturity, the effective interest rate may be
computed as follows:
(10% X $10,000) = 10.0%
$10,000
Booster Company, a manufacturer of athletic apparel, wants to
borrow $10,000 at a stated rate of 10% for 1 year. If interest is
paid at maturity, the effective interest rate may be computed
as follows:
If this loan were a discount loan, the effective rate of interest
would be:
(10% X $10,000) = 11.1%
$10,000 - $1,000
Single Payment Notes
– A single-payment note is a short-term, one-time loan
payable as a single amount at its maturity.
– The “note” states the terms of the loan, which include the
length of the loan as well as the interest rate.
– Most have maturities of 30 days to 9 or more months.
– The interest is usually tied to prime and may be either
fixed or floating.
During the 90 days that loan B was outstanding, the prime
rate was 6% for the first 30 days, 6.5% for the next 30
days, and 6.25% for the final 30 days. As a result, the
periodic rate was .575% [7% x (30/365)] for the first 30
days, .616% for the second 30 days, and .596% for the
final 30 days. Therefore, its total interest cost was $1,787
[$100,000 x (.575% + .616% + .596%)].
Thus, the effective cost is 1.787% for 90 days. The effective
annual rate may be calculated as follows:
EAR = (1 + periodic rate)m - 1 = (1+.01787)4.06 - 1 = 7.46%
Terms of Sale
Terms of Sale - periode kredit, potongan tunai, periode
potongan tunai serta penentuan awal periode kredit.
Periode kredit: jumlah hari mulai dari saat penentuan
awal periode kredit sampai dengan saat pembayaran
keseluruhan jumlah hutang.
Example - 5/10 net 30
5 - percent discount for early payment
10 - number of days that the discount is available
net 30 - number of days before payment is due
APR & APY
• Annual percentage rate (APR). The periodic rate
times the number of periods in a year. For example:
2% per quarter is an 8% APR
• Annual percentage yield (APY). The effective (true)
annual rate of return. The APY is the rate you actually
earn or pay in one year, taking into account the effect
of compounding. For axample: 1% per month is a
12,68% APY.
• A firm that buys on credit is in effect
borrowing from its supplier. It saves cash
today but will have to pay later. This, of
course, is an implicit loan from the supplier.
• We can calculate the implicit cost of this loan
Effective annual rate
(
= 1+
365/ extra days credit
)
discount
discounted price
-1
Example - On a $100 sale,
with terms 5/10 net 60,
what is the implied
interest rate on the
credit given?
Effective annual rate
(
discount
= 1 + discounted
price
= (1 + )
5 365/50
95
)
365/extra days credit
-1
- 1 = .454, or 45.4%
Penentuan awal periode kredit:
• The date of invoice
• The end of the month (EOM)
• The middle of the month (MOM)
• On receipt of goods
Contoh:
• Persyaratan kredit
2/10 net 30.
Pembelian dilakukan
tanggal 10 dan 20
September.
• Berikut ini tanggal
yang harus dilakukan
untuk pembelian 10
September pada
berbagai penentuan
awal periode kredit
Awal Cash
No cash
kredit discount discount
Date of 20 Sept
invoice
10 Okt
EOM
30 Okt
10 Okt
MOM 25 Sept
15 Okt
Berikut ini tanggal yang harus dilakukan
untuk pembelian 20 September pada
berbagai penentuan awal periode kredit Awal
kredit
Date of
invoice
Cash
No
discount Cash
discount
30 Sept 20 Okt
EOM
10 Okt
30 Okt
MOM
25 Okt
15 Nop
Cash discount vs No cash discount
Pada 27 Maret membeli barang seharga Rp
1.000.000,00 dengan syarat kredit 2/10 net 30
EOM.
• Cash discount. Pembayaran sebelum 10 April
sebesar Rp 980.000,00
• No Cash discount . Pembayaran 30 April
sebesar Rp 1.000.000,00