Page 46 - DCOM505_WORKING_CAPITAL_MANAGEMENT

Unit 3: Financing of Working Capital Needs

3. .......................... is a sum given to borrower against some security. Notes
4. In .......................... facility, the borrower is allowed to withdraw funds in excess of the
balance in his/her current accounts.

3.1.2 Commercial Papers (CPs)

Commercial paper represents a short-term unsecured promissory note issued by firms that
have a fairly high credit (standing) rating. It was first introduced in USA and it was an important
money market instruments. In India, Reserve Bank of India introduced CP on the
recommendations of the Vaghul Working Group on money market. CP is a source of short-term
finance to only large firms with sound financial position.
Features of CP

CP can be issued for maturities between a minimum of 7 days and a maximum of up to one year
from the date of issue. The maturity date of the CP should not go beyond the date up to which the
credit rating of the issuer is valid. CP can be issued in denominations of ` 5 lakh or multiples
thereof. Amount invested by a single investor should not be less than ` 5 lakh (face value). CP
can be issued either in the form of a promissory note or in a dematerialised form through any of
the depositories approved by and registered with SEBI. CP will be issued at a discount to face
value as may be determined by the issuer. No issuer shall have the issue of CP underwritten or
co-accepted.

Eligible Issuers of CP

1. Corporates, PDs (primary dealers) and all-India Financial Institutions (FIs) that have been
permitted to raise short-term resources under the umbrella limit fixed by the Reserve
Bank of India (RBI) are eligible to issue CP.
2. A corporate would be eligible to issue CP provided: (a) the tangible net worth of the
company, as per the latest audited balance sheet, is not less than ` 4 crore; (b) the company
has been sanctioned working capital limit by bank/s or FIs; and (c) the borrowal account
of the company is classified as a Standard Asset by the financing bank/institution.

Advantages of CP

1. It is an alternative source of finance and proves to be helpful during the period of tight
bank credit.

2. It is a cheaper source of short-term finance when compared to the bank credit.

Task Analyse and discuss the possible disadvantages of CPs.
3.1.3 Factoring

Banks have been given more freedom of borrowing and lending both internally and externally,
and facilitated the free functioning of the banks in lending and investment operations. From
1994 banks are allowed to enter directly leasing, hire purchasing and factoring services, instead
through their subsidiaries. In other words, Banks are free to enter or exit in any field depending
on their profitability, but subject to some RBI guidelines.

LOVELY PROFESSIONAL UNIVERSITY 41