Page 31 - DMGT409Basic Financial Management

Basic Financial Management

Notes 2.3.5 Trade Credit

Trade credit refers to credit granted to manufacturers and traders by the suppliers of raw material,
finished goods, components, etc. Usually business enterprises buy goods on 30 to 90 days credit.

This means that the goods are delivered but payments are not made until the expiry of the period
of credit. This type of credit does not make the funds available in cash but it facilitates purchases
without making immediate payment which amounts to funding it by suppliers. This is a very
popular source of short-term fi nance.

2.3.6 Deferred Income

Deferred incomes are incomes received in advance by the firm for supply of goods or services

in future period. These income receipts increase the firm’s liquidity and constitute an important
source of short-term source finance. These payments are not showed as revenue till the supply

of goods or services, but showed in the balance sheet as income received in advance. Advance
payment can be demanded by only firms having monopoly power, great demand for its products

and services and if the firm is manufacturing a special product on a special order.

2.3.7 Commercial Banks

Commercial banks are the major source of working capital finance to industries and commerce.
Granting loan to business is one of their primary functions. Getting bank loan is not an easy task
since the lending bank office may ask number of questions about the prospective borrower’s

financial position and its plans for the future. At the same time bank will want to monitor of the
borrower’s business progress. But there is a good side to this, that is borrower’s share price tends
to rise, because investor know that convince banks is very diffi cult.
Forms of Bank Finance

Banks provide different types of tailored made loans that are suitable for specific needs of a firm.
The different types of forms of loans are:

1. Loans: Loan in an advance is lumpsum given to borrower against some security. Loan
amount is paid to the applicant in the form of cash or by credit to his/her account.
In practice the loan amount is paid to the customer by crediting his/her account. Interest
will be charged on the entire loan amount from the date the loan is sanctioned.
2. Overdrafts: Overdraft facility is an agreement between the borrower and the banker, where
the borrower is allowed to withdraw funds in excess of the balance in his/her current
accounts up to a certain limit during a specified period. It is flexible from the borrower ‘s

point of view because the borrower can withdraw and repay the cash whenever he/she
wants within the given stipulations. Interest is charged on daily over drawn balances and
not on the overdraft limit given by the bank. But bank charges some minimum charges.
3. Cash Credit: It is the most popular source of working capital finance in India. A cash credit

facility is an arrangement where a bank permits a borrower to withdraw money up to a
sanctioned credit limit against tangible security or guarantees. Borrower does not require
to withdraw the total sanctioned credit at a time, rather, he can withdraw according to his/
her requirements and he can also repay the surplus cash in his cash credit account. Interest
is chargeable on actually used amount and there is no commitment charge. Cash credit is

a flexible source of working capital from borrower’s point of view.

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