05 - Introduction Short-term Financing Funds for investment...

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1 Short-term Financing Introduction • Funds for investment in current assets need to be mobilised from short-term sources of cash receipts. • This chapter focuses on – The sources of short-term financing – The direct and indirect costs thereof. External & Internal Short-term Financing Internal source Sales Projected in the cash budget External source Arises from deficit 1. Accruals 2. Trade credit (accounts payable) 3. commercial papers 4. short-term bank loans Accruals • Continually recurring short-term obligations that must be cleared at particular future date. Until paid accruals remain as liability to the • Until paid, accruals remain as liability to the firm and can be used to finance working capital. • Include – wages, salaries, bills and taxes that are payable. Accruals • Characteristics of Accruals. – They increase automatically or spontaneously as the firm’s operations expand. – Zero financing cost as there is no explicit interes obligatio on fund raised through interest obligation funds accruals. – Not ordinarily controllable. • The timing of wage and salary payments is established by economic circumstances and industry custom • Tax payment dates are established by law. Trade Credit (Accounts Payable) • Spontaneous source of short-term financing as it arises out of ordinary business transactions • Short-term financing source as the firm Short term financing source as the firm borrows funds to purchase inventory from the sellers on credit. • Increased by – increasing purchases purchases – managing a longer credit term
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2 Trade Credit (Accounts Payable) • Example: – ACP (DSO) =30 days – Average purchase = Tk.2,000 on term net 30 A erage pa able balance 30 X Tk 2 000 – Average payable balance = 30 X Tk.2,000 = Tk.60,000 • If the firm doubles purchases the new payable balance = 2 X Tk.60,000 = Tk. 120,000 • If the firm can extend credit term to net 40, the new payable balance is 40 X Tk.2,000 = Tk.80,000 Cost of trade credit • Occurs whenever the firm does not avail discount benefit. • Opportunity cost of not paying less than invoice price Trade Credit (Accounts Payable) invoice price. • If discount not taken, the alternative source is borrowing – Opportunity cost of trade credit has to be weighed against cost of borrowing Cost of trade credit Trade Credit (Accounts Payable) • Sellers offering discounts for early payments develop invoice price by adding the discount amount to the true price. o Invoice price = Tk.100 o Discount = 2% o Invoice price (the list price) = Tk.100 = Tk.98 true price + Tk.2 discount. Cost of trade credit
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05 - Introduction Short-term Financing Funds for investment...

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