ShortTerm Financing STCM Chapter 16 ECM Chapter 13

1
Short-Term FinancingSTCM Chapter 16ECM Chapter
13
Order Order Sale
Cash Placed Received
Received

Accounts Collection lt
Inventory gt lt Receivable gt lt Float
gt

Time gt Accounts Disbursement
lt Payable gt lt
Float gt Invoice
Payment Cash
Received Sent
Paid
2
Financing and the Cash Flow Timeline

• A deficit cash position may result from the
  iteration of inefficient or inappropriate working
  capital policies
• Management should first evaluate its working
  capital policies to ensure the most efficient
  stream of cash flow from operations
• Strategic Plans can also cause a need for
  financing
• Balance Sheet Management will help dictate the
  financing strategies

3
Overall Borrowing Strategy

• Access to Capital
• Benefits of Using Financial Leverage
• Coordination with Capital Budgeting

4
Financing Strategies
Short-Term
Excess
Liquidity
Financing

Temporary Current Assets
Permanent Current Assets
Long-Term
Financing
Fixed Assets
Time
5
Decisions/Issues to Consider in Borrowing
Strategy

• Source - Debt vs Equity
• Maturity - Short or Long
• Interest Rate Characteristics
• Secured vs Unsecured
• On-and Off-Balance Sheet Financing

6
Short-Term Borrowing Objectives

• Maintaining Availability of Credit
• Optimizing the Cost of Funds
• Minimizing Risk
• Maintaining Flexibility

7
Variables Affecting the Cost of Borrowing

• Loan Pricing
• Credit Rating
• Credit Enhancement

8
Loan Pricing

• All-in-RateBase Rate Spread
• Spread and Creditworthiness
• Common Base Rates
• LIBOR
• Prime Rate
• T - Bill

9
Credit Ratings

• Ratings are issue-specific
• Useful tool in evaluating overall
  creditworthiness
• Incorporates business risk and financial risk
  factors
• A company pays for the rating service

10
Financing Alternatives

• Line of Credit
• Letter of credit
• Bankers acceptance
• Reverse repurchase agreement
• Commercial paper

11
Asset Based Loans

• Receivable financing
• Inventory financing

12
Line of Credit

• An agreement between a lender and a borrower in
  which the borrower has access to funds up to a
  specific amount during a specific period of time.

13
Key Characteristics of a Line of Credit

• Uncommitted versus Committed
• Unsecured versus Secured
• Clean-up Period Requirement
• Effective Loan Rate

14
Effective Rate for Lines of credit

• Out of pocket costs
• Interest expense
• Commitment fee
• Usable funds
• Compensating balance

15
Effective Rate for Lines of Credit
Interest

Fees Paid 365 Effective rate
-------------------- x ------------
Usable funds
Maturity
16
Revolving Credit Agreement

• A facility which allows the borrower to borrow,
  repay, and reborrow up to a defined amount.
• It is a contractual commitment which includes
  covenants, commitment fees, and facilities fees.

17
Commercial Paper

• An unsecured promissory note issued by companies
  for a specific amount with maturities ranging
  from overnight to 270 days.

18
Key Characteristics for Commercial Paper

• CP issues are not registered with SEC.
• Most CP issues are discount instruments.
• Distribution is typically done through dealers or
  direct issuance.
• CP issues are usually rated.
• Back-up lines of credit are often used.

19
Commercial Paper Pricing

• Out of pocket costs
• Interest expense
• Line of credit fee
• Dealer underwriting fee
• Remarketing fee
• Usable funds
• Discounted price (Face value less interest)
• Dealer spread

20
Letter of Credit

• Substitutes the credit of a financial institution
  for that of the borrower
• Financial institution guarantees payment to the
  seller and then collects from the borrower

21
Bankers Acceptance (BA)

• A negotiated short-term instrument used primarily
  to finance the import, export or domestic
  shipment of goods or the storage of readily
  marketable staples.

22
Key Characteristic of BAs

• It is a time draft accepted by a bank.
• The BA is the direct obligation of the accepting
  bank.
• The credit rating of the accepting bank backs the
  BA.
• A BA is a marketable instrument.
• A BA is a discount instrument.

23
Asset-Backed Borrowing

• A secured form of lending based on the pledging
  of A/R or inventory as collateral for the loan.

24
Types of Asset-Backed Borrowing

• A/R
• Inventory
• Floor Planning
• Factoring

25
Accounts Receivable

• Collateralized over 100
• Payments by customers made directly to lender
• Lender does not own the receivables

26
Inventory

• Collateralized over 100
• Finished Goods or Raw Materials

27
Floor Planning

• High Cost Goods (Autos, Appliances)
• Lender takes title to the goods
• Loans are repaid when the goods are sold

28
Securitization

• Financing technique in which a company issues
  debt securities backed by a pool of selected
  financial assets.

29
Key Characteristics of Securitization

• Off-balance sheet financing
• Helps improve the balance sheet by reducing
  leverage
• Issues are credit enhanced

30
Credit Enhancement Methods for Securitization

• Over-collateralization
• Letter of Credit
• Spread Accounts

31
Acme Corp
Cash
Investors
Auto Loans 8 5 years 10M
Borrowers 12.5M
Subsidiary (off balance sheet) 9.5M
Asset backed securities
Repay loans
Acme Corp 1.8M
5 3yr 3.3M
3 1yr 3.1M
7 5yr 4.3M
Residuals
32
Medium and Long-Term Borrowing Alternatives

• Medium Term Notes
• Bonds
• Debt-Equity Hybrids
• Term Loans
• Leasing
• Private Placement

33
Key Characteristics of Bonds

• Bonds are administered through a trustee.
• Bonds can be secured versus unsecured.
• Bonds can be classified as senior or subordinate.
• Bonds have call features.
• Secured bondholders have priority claim in
  liquidation.
• Ratings

34
Issuance of Bonds

• Competetive or Negotiated
• Hire a Financial Advisor or Underwriter(s).
• Hire Bond Counsel.
• Create Documents including Official Statement
  (OS).
• Apply for Ratings.
• Finalize Structure and issuance date.
• Marketing and Order Period.
• Sale.
• Closing.

35
Leasing

• An alternative to term lending for financing
  equipment purchases.
• Typically 100 of the equipment cost can be
  financed.
• A capital lease is an on-balance sheet
  transaction.
• An operating lease is an off-balance sheet
  transaction.
• Tax advantages exists for the lessor and the
  lessee

36
Private Placement

• Is a direct sale of securities by a company to
  institutional investors.
• Securities are not registered with the SEC.
• May offer longer or more flexible terms than term
  loans.
• Less costly to arrange than for public debt
  issues.