Revolving Credit Agreements

Lines of Credit.

Unsecured Short-Term Loans

Secured Short-Term Loans

For most firms, bank loans are a very important source of short-term funding. Such loans almost always involve a promissory note in which the borrower promises to repay the loan plus interest. In secured loans, banks also require the borrower to pledge collateral -that is, to give the bank the right to seize certain assets if payments are not made as promised.

Perhaps the biggest disadvantage of secured borrowing is the paperwork and administrative costs involved. Agreements must be written, collateral must be evaluated, and the terms of the loans must be enforced. But secured loans do enable borrowers to get funds when they might not qualify for unsecured credit. In addition, secured loans generally carry lower interest rates than unsecured loans.

Not all loans require businesses to put up collateral. With an unsecured loan, the borrower does not have to put up any collateral. However, in many cases, the bank requires the borrower to maintain a compensating balance. That is, the borrower must keep a portion of the loan amount on deposit with the bank in a non-interest-bearing account. Requiring a compensating balance lets the bank raise the borrower's real cost of the loan and thus the bank's profit.

The terms of an unsecured loan - amount, duration, interest rate, and payment schedule - are negotiated between the bank and the borrowing firm. Thus, to receive an unsecured load from a bank, a firm usually must have established a good banking relationship with the lender. Once an agreement is made, a promissory note will be executed and the funds transferred to the firm. Although some short-term unsecured loans are one-time-only arrangements, many take the form of lines of credit or revolving credit agreements.

A standing agreement between a bank and a firm in which the bank promises to lend the firm a maximum amount of funds on request is called a line of credit. With a line of credit, the firm knows the maximum amount it will be allowed to borrow. The bank does not guarantee that the funds will be available when requested, however.

Revolving credit agreements are similar to bank credit cards for consumers. Under a revolving credit agreement, a lender agrees to make some amount of funds available on demand to a firm on a continuing basis. The lending institution guarantees that these funds will be available when sought by the borrower. In return for this guarantee, the bank charges the borrower a commitment fee for holding open the line of credit, even if the customer does not borrow any funds.

Дата добавления: 2015-01-03