Download Management of Current Liabilities: Sources of Short-Term Credit and Financing and more Study notes Finance in PDF only on Docsity! Chapter 17 Management of Current Liabilities I. Focus of the chapter is on sources of short term credit. ST lenders can be classified into cash-flow lenders and asset-based lenders. Cash-flow lenders look upon the borrower's future cash flows as the primary source of loan repayment and the borrower's assets as a secondary source of repayment. Asset- based lenders tend to make riskier loans than cash-flow lenders, and as a result, they place much greater emphasis on the value of the borrower's collateral. II. Trade credit. Whenever a business receives merchandise ordered from a supplier and then is permitted to wait a specified period of time before having to pay, it is receiving trade credit. Trade credit is considered a spontaneous source of financing, because it normally expands as the volume of a company's purchases increases. Credit terms, or terms of sale, specify the conditions under which a business is required to repay the credit that a supplier has extended to it. The credit terms spell out the credit period and cash discount, if any. Forgoing the cash discount results in an opportunity cost. The annual financing cost of forgoing a cash discount is calculated using Equation 17.3: periodDiscount - period Credit 365 discount Percentage100 discount Percentage AFC (17.3) Example: III. Accrued expenses. Accrued expenses such as accrued wages and taxes represent liabilities for services rendered to the firm that have not yet been paid by the firm. As such they are a source of financing and generally constitute an interest-free source of financing. Deferred income consists of payments received for goods and services that the firm has agreed to deliver at some future date. As such, they are a source of funds. IV. Short term bank credit Line of credit. A line of credit is an agreement that permits the firm to borrow funds up to a predetermined limit at any time during the life of the agreement. The annual financing cost of LOC is calculated using equation 17.1: )( daysMaturity 365 funds Usable Fees costs Interest AFC (17.1) Example: Revolving credit agreement. An LOC does not legally commit the bank to making loans to the firm under any and all conditions. If the firm desires a guaranteed line of credit, it must negotiate a revolving credit agreement. Under a revolving credit agreement, or revolver, the bank is legally committed to making loans to a company up to the predetermined credit limit specified in the agreement. (days)Maturity 365 funds Usable fee Commitment costsInterest AFC (17.4) Example:
