FREE online courses on How to Manage Cash Flow - Chapter 3 - Bank Financing

 

One of your key partners in business should be your bank. Therefore, it is essential that you establish a good working relationship with a bank officer. This relationship is the basis for how you will obtain bank financing. For example, a line of credit is one way to address recurring cash deficits. You can also arrange a revolving loan. Under these arrangements, you borrow as deficits occur up to a maximum amount. Unless you have excellent credit, you will be required to put up collateral (such as receivables, inventory, etc.). The bank may also require a commitment fee or compensating balance (percentage of loan). Some key points about bank financing are:

 

·         Make arrangements to borrow when you least need it. This is the best way to obtain favorable terms and conditions for short-term financing.

·         Borrow more than you think you will need. Many organizations under-estimate the amount of borrowing required for short-term financing.

·The moment you think you will need short term financing, begin preparing immediately. Bank financing takes time to arrange and execute.

·         Borrow to meet your strategic plans, not to avoid possible bankruptcy. Banks are much more receptive to financing when it fits with some type of long-term plan.

·         Make sure you maintain the best possible relationship with the bank. Send regular reports and information to the bank officer.

 

Example 10 --- Calculate Effective Rate for Line of Credit

 

You have established a $ 250,000 line of credit. The bank requires a 5% compensating balance on outstanding borrowings and 3% on any unused balance. The bank will charge 16%. You recently borrowed $ 100,000. What is your effective interest rate?

Borrowed Funds $ 100,000 x .05 =  $ 5,000

Unused Funds $ 150,000 x .03 =        4,500

          Total Compensating Balance           $ 9,500

 

($ 100,000 x .16) / ($ 100,000 - $ 9,500) = 17.7% effective rate