Financial Decision

Short-term financing, as presented in the balance

sheet, consists of all current liabilities. And for
the current liabilities to be considered as current,
the revised Philippine Accounting Standard No. 1
provides the following criteria:

1. It is expected to be settled in the entity’s

normal operating cycle;
2. It is held primarily for the purpose of being
traded;
3. It is due to be settled within twelve months after
balance sheet date;
4. The entity does not have an unconditional right
to defer settlement of the liability for at least
twelve months after the balance sheet date.
2
1. It is easier to arrange. Short-term financing
is easier to arrangement since the exposure
of the financial institutions granting the
loan is shorter and with lesser risks.
2. It is less expensive. The interest rate is
lower since the financial institution has
lower risk in terms of collection period.
3. It affords the borrower more flexibility. In
time of declining interest, the borrower can
avail of loan on piecemeal basis to take
advantage of lower interest.
1. Interest rate fluctuates more often. In times
of increasing interest, the interest expense
borne by the borrower is higher.
2. Refinancing is frequently needed. The
documents needed have to be updated
every time a loan is availed or refinance.
The maximum term under short-term
financing is one year.
3. Delinquent payment may be detrimental to
the credit rating of the borrower who is
experiencing a liquidity problem.
1. Trade credit
2. Stretching payables
3. Accruals
4. Bank loans – secured, unsecured,
credit line, installment loan
5. Banker’s acceptances - mainly used
for transactions to finance the
shipment and handling of
merchandise between the exporter
and importer Finance company loans
6. Commercial paper is issued with unsecured
promissory note. Companies with high credit
ratings can issue it
7. Receivable financing – Accounts receivable is
used as collateral
8. Inventory financing – inventories are used as
collateral
It is the minimum balance required by lending
banks in the firm’s current or savings
account. Practically, there are two types of
compensating balance and they are as
follows:
1. Activities related to the account holder’s
account.
2. Activities related to bank credits.
Amount to be borrowed = Amount needed
(1 – c)
where:
c = compensating balance

Gilmore Corporation needs P250,000 to bridge the gap in their working capital.
Bonifacio Bank is willing to lend them but requires a compensating balance
of 20%. How much is the amount to be borrowed to meet its need?

Answer
= P250,000 = P312,500
(1 – 0.20)

Amount borrowed P150,000 with compensating balance of 20% and it has an

unused line of credit amounting to P50,000 with compensating balance of
10%. What amount the firm in his account should maintain?

Answer
(P150,000 x 20%) + (P50,000 x 10%) = P35,000
1. Add-on Interest. The interest is computed
based on the outstanding loan balance and
whatever interest computed is added to the
principal payment.

2. Discounted Interest. The interest computed

is immediately deducted on the principal
amount of the loan.
Add-on Interest

Effective rate = Interest x Days in a year

Principal Days loan is outstanding

Discounted Interest

Effective rate = Interest x Days in a year

Principal - Interest Days loan is outstanding
Add-On
Effective rate = Interest rate
(1 – c)

Discounted interest
Effective rate = Interest rate
(1 – d - c )

where d = discount rate or amount

Example
Conan Corporation, having a high credit rating, is given an
opportunity to issue commercial paper worth P100,000 at 15%
for 120 days. The funds obtained from the issuance will be
needed for 90 days only. With excess funds on hand, it can be
invested in securities with a rate of return equivalent to 12%. The
brokerage fee associated with the marketable security
transactions is 2.0%. What is the cost of issuing the commercial
paper?

Answer
Interest Expense (P100,000 x 0.015 x 120/360) P 5,000
Add: Brokerage fee (P100,000 x 0.02) 2,000
Total cost P 7,000
Less: Return on marketable securities
(P100,000 x 0.12 x 30/360) 1,000
Net Cost P 6,000
ACD Company assigned P500,000 of accounts receivable to RCBC
under a notification arrangement. RCBC loans 80% less 4%
service charge and 3% commission on the gross amount
assigned. ACD signed a promissory note that provides for 12%
interest on the advances. The assignee made a collection of
P300,000. The final payment will take place after six months.

What is the amount to be received by the assignor?

Answer
Amount received by the assignor:
Advances (P500,000 x 0.80) P400,000
Less: Service charge (P500,000 x 0.04) P20,000
Commission (P500,000 x 0.03) 15,000 35,000
Total P365,000
Sarah General Merchandise factor its receivables
amounting P500,000 with FLT Financing Corporation
that charges 5.0% commission. An interest rate of 2.5%
per month is charged on the 90% of the accounts
receivable advanced by the financing company. How
much is the total cost of the factoring?

Answer
Commission
(P500,000 x 0.05) P25,000
Add: Interest expense
(P500,000 x 0.90 x 0.025) 11,250
Total Cost P36,250
Heart Corporation has a note for P250,000 dated January 1,
2009. The note is due in 120 days with interest at 9.0%. If
Heart Corporation sells the note on March 31, 2009 to RCBC
Capital charging a discount rate of 5.0%, how much is the
net proceeds of the promissory note?

Answer
Maturity value = Face Value + Interest
= P250,000 + (P250,000 x 0.09 x 120/360)
= P250,000 + P7,500
= P257,500

Discount = P257,500 x 0.05 x 30/360

= P1,072.92

Net Proceeds = Maturity value – Discount

= P257,500 – P1,072.92
= P256,427.08
Types of Inventory Financing
1. Floating lien. Also known as blanket lien is a type of
inventory financing wherein the creditor has a claim on the
inventory as a whole without specifying the kind of
inventory being attached.
2. Warehouse receipt. Under this agreement, goods are
specified, segregated and stored in a public or terminal
warehousing company.
3. Trust receipt. Under this scheme of inventory financing,
although the title to the inventory is retained by the creditor,
the debtor is authorized by the former to use the inventory
for production or selling provided that whatever proceeds
from the use of the inventory entrusted to him will be
remitted immediately.