The filing requirement protects the lender by legally

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Unformatted text preview: ce within the state—typically, a county or state court. Filing provides subsequent lenders with information about which assets of a prospective borrower are unavailable for use as collateral. The filing requirement protects the lender by legally establishing the lender’s security interest. Characteristics of Secured Short-Term Loans Although many people believe that holding collateral as security reduces the risk of a loan, lenders do not usually view loans in this way. Lenders recognize that holding collateral can reduce losses if the borrower defaults, but the presence of collateral has no impact on the risk of default. A lender requires collateral to ensure recovery of some portion of the loan in the event of default. What the lender wants above all, however, is to be repaid as scheduled. In general, lenders prefer to make less risky loans at lower rates of interest than to be in a position in which they must liquidate collateral. Collateral and Terms percentage advance The percent of the book value of the collateral that constitutes the principal of a secured loan. Lenders of secured short-term funds prefer collateral that has a duration closely matched to the term of the loan. Current assets—accounts receivable and inventory—are the most desirable short-term-loan collateral, because they can normally be converted into cash much sooner than fixed assets. Thus the shortterm lender of secured funds generally accepts only liquid current assets as collateral. Typically, the lender determines the desirable percentage advance to make against the collateral. This percentage advance constitutes the principal of the secured loan and is normally between 30 and 100 percent of the book value of the collateral. It varies according to the type and liquidity of collateral. CHAPTER 15 Hint Remember that firms typically borrow on a secured basis only after exhausting less costly, unsecured sources of short-term funds. Current Liabilities Management 651 The interest rate that is charged on secured short-term loans is typically higher than the rate on unsecured short-term loans. Lenders do not normally consid...
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