Chapter 16
Short-Term Business Financing
© 2000 John Wiley & Sons, Inc.
Chapter Outcomes
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NWC Identify and describe strategies for
financing working capital.
Identify and briefly explain the factors that
affect short-term financing requirements.
Identify the types of unsecured loans
made by commercial banks to business
borrowers.
Describe the use of accounts receivable,
inventory, and other sources of security
for bank loans.
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Chapter Outcomes, continued
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Explain the characteristics, terms, and
costs of trade credit.
Explain the role of commercial finance
companies, factors, Small Business
Administration, and commercial paper in
providing short-term business financing.
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Strategies for Financing
Working Capital
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Working capital
Net working capital
NWC and financing strategy
– If NWC>0
$ of current assets financed with longterm funds
– If NWC<0
$ of fixed assets financed with current
liabilities
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Another way to look at a firm’s
assets...
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Fixed Assets
Permanent current assets
Temporary current assets
Asset levels fluctuate over time for a
firm
5
Asset Trends for a Growing Firm
Temporary or Fluctuating
Current Assets
Permanent Current Assets
Fixed Assets
Time
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Asset Trends for a Growing Firm:
Temporary or Fluctuating
Current Assets
Permanent Current Assets
Fixed Assets
Short-term
Long-term financing financing
Maturity Matching
Time
7
Asset Trends for a Growing Firm:
Permanent Current Assets
Fixed Assets
Long-term
financing
Temporary or Fluctuating
Current Assets
Short-term financing
Aggressive Financing
Time
8
Asset Trends for a Growing Firm:
Permanent Current Assets
Fixed Assets
Long-term financing
Temporary or Fluctuating
Current Assets
Short-term
financing
Conservative Financing
Time
9
Basic Financing Strategies

Maturity matching
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Aggressive

Conservative
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Influences on the short-term/
long-term financing decision
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Risk/return implications
Rate volatility
Credit availability/crunch
Operating characteristics of firm
Flexibility
Ease of future financing
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Patterns of Short-Term and Long-Term
Financing over Time
$
Pattern of Short-Term
Financing
0
Time
$
Pattern of Long-Term
Financing
0
Time
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Commercial Bank Lending
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Line of Credit
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Revolving Credit Agreement
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Accounts Receivable Financing
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Line of Credit
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Clean up period
Periodic re-approval
Compensating balance versus fees
14
Revolving Credit Agreement
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Commitment by bank
Charge on unused funds
15
Accounts Receivable Financing
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Pledging receivables
– <80 percent of AR value
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Interest rate + fees
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Computing interest rates
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EAR = (1 + APR/m)m - 1
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$10,000 loan, 6 months, 8%APR
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EAR = (1 + .08/2)2 - 1 = 8.16%
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Discounted Loans
Discounted loan
$ received = loan amount - interest
= $10,000 - $400 = $9600
Periodic rate = $400/9600
APR = 8.51%
 Loan request = funds needed
1 - discount %
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Inventory Loans
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Percent of value lent depends on
inventory characteristics
Blanket inventory loan
Trust receipt
Warehouse receipt
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Loans can be secured by...
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Stock and bonds
Cash value of life insurance policy
Co-signer
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Trade Credit
Net date
 Trade discounts
2/10 net 30
 Cost of trade credit
Pay $98 within 10 days
or pay $100 within 30 days
Cost: extra $2 for delaying 20 days
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Cost of Trade Credit
Cost: extra $2 on a $98 charge for
delaying 20 days
 Approx. effective cost = 2/98 x 365/20
= 37.2%
General formula:

Percent discount x 3 6 5 days
100%-discount % net days-discount days
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Commercial Finance Companies
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Organization without a bank charter
that advances funds to businesses
– discounts receivables
– secured machinery loans
– inventory loans
– leases
Higher cost than bank loans
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Factors
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Purchases receivables and assumes
credit risk
Can supplement or replace a firm’s
credit department
Two types of factoring:
– maturity factoring
– advance factoring
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Cost: interest plus charges
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Other sources
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Small business:
– SBA guaranteed loans
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Large business:
– commercial paper
– proceeds =
issue size less interest less
placement fees
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