Borrowing (3)
January 21, 2009 – 6:01 am-
Asset-backed securities. Securitization can help a company obtain inexpensive credit and improve its financial ratios by providing off-balance sheet financing. A pool of receivables with a predictable cash flow (e.g., mortgages, loans, leases) can be used to support the issuance of debt securities. The cash flow pays the interest charges and is used to retire the security issue. Asset-backed securities are less expensive than bank loans and broaden the market for a company’s debt. However, there are various costs in using securitization: attorneys and accountants to prepare the agreements and filings; investment bankers to place the transaction; and income servicers to collect payments and remit to investors.
Cost of Borrowing
The factors that influence the final cost of borrowing include:
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Credit risk. The perceived risk of default by the borrower will determine the interest cost at which a lender will lend funds.
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Rate basis. Loans are often priced as a spread above a certain index rate. Some of the common index rates used are the prime rate (traditionally the rate at which U.S. banks lend money to their most creditworthy clients), the London Interbank Rate (LIBOR, set in London on a daily basis), or federal funds (the rate at which commercial banks lend excess reserves to each other, as set by the Federal Reserve).
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Fixed or variable. Depending on current and expected future market conditions, a rate can be fixed for the entire time of the loan or be adjusted at regular intervals.
Before borrowing from external sources, a cash manager should also explore all internal sources of funds. These could include increasing sales, accelerating accounts receivable and collections, reducing inventory, improving accounts payable management, reducing expenses, and selling nonessential assets.
Taken From : Essentials of Managing Corporate Cash
