Page 194 - Finance for Non-Financial Managers

Siciliano11.qxd 2/8/2003 7:28 AM Page 175
175
Financing the Business
Short-Term Debt—Balancing Working Capital Needs
Every company has short-term debt of one kind or another,
obligations that it must repay sometime in the next 12 months.
Its purpose is to extend the working capital resources of the
company and to put more money to work earning for the com-
pany, so the owners don’t need to put more cash into the com-
pany’s bank account. It includes both short-term borrowing
from the bank and traditional trade credit.
The most common kind is trade credit—accounts payable to
suppliers, typically extended for 30 days at a time and without
formal loan agreements. However, many companies also have
formal arrangements to obtain additional short-term debt in the
form of loans from banks or other lenders. Here are some
examples of needs for working capital that may be relieved by
short-term borrowing:
• increasing accounts receivable balances, perhaps to
finance rapidly growing sales on credit or a slowdown in
receiving payment of open customer balances,
• inventory buildups due to a planned new product intro-
duction, preparation for a heavy selling season, or avoid-
ance of an upcoming supplier price increase,
• a temporary cash shortage caused by operating losses
the company has incurred but expects to recover from
soon, as long as it can rebuild its working capital in the
interim, or
• a business cycle that inherently includes alternating peri-
ods of negative cash flow (to manufacture) and positive
cash flow (to sell).
Some examples will serve to show the variety that is possi-
ble here.
Revolving Credit Line
A revolving credit line is a promise by a bank (typically) or other
lender to provide cash on demand up to a certain maximum, the
credit limit. The borrower obtains a revolving credit line based on