Secured Bank Loan: Secured bank loan can be define as “a loan which is obtained by pledging some specific assets as a security/collateral.
Short Term Secured Bank Loan: The bank loan obtained by pledging assets, specially current assets i.e. accounts receivables and inventories as a collateral. The credit which is extended by the commercial bank to the business firms, having maturity of one year or less than one year by pledging the specific assets of borrower as a collateral.
Features Of Short Term Secured Bank Loan: Following are the some important features of short term secured loan;
1) Collateral: The assets on which bank has claim at the time of liquidation or borrower defaults on maturity.
2) Cost/Interest Rate: The cost of secured loan is higher then the cost of unsecured loan, because lender charge interest as well as service charges for loan to evaluate the credit worthiness of borrower.
3) Maturity: As this is a short term loan, therefore its maturity is one year or less than one year.
4) Sources: The major sources of short term secured loans to business firms one commercial banks and finance companies.
5) Percentage Advance: To extend short term loan to the firm, lender determines the desirable %age advances to make against the collateral.
Forms/Types Of Short Term Secured Loan:
There are mainly two types of short term secured loan which are as follows;
1) Use Of Account Receivable As A Collateral
2) Use Of Inventory As A Collateral
Now we can discuss the above two terms given as under;
Use Of Account Receivable As A Collateral: A business firm can obtain secured short term loan by;
1) Pledging Accounts Of Receivables
2) Factoring of Receivables
Now we can explain both of them in detail as under;
1) Pledging Accounts Receivables: Short term loans which a extended by bank to firm by pledging its receivable as a collateral.
Features of pledging Receivables: Following are the some features of pledging receivable as a collateral given as under;
1) In this case risk of non-payment will remain with the borrower.
2) Legal ownership of receivable remain with the firm (seller).
3) The title of receivable will remain with the seller of goods.
Pledging Process: When a firm request for a loan to bank or finance companies, then following steps are involved.
1) Evaluating The Quality Of Receivable Pledged: For this purpose bank evaluate the credit worthiness of the customer to whom credit sale is made. If quality of receivable is high then lender will extend loan up to 90% of the face value of the receivables, and if quality will low then bank will extend loan only 25% of the face value of the receivable.
2) Evaluating The Size Of Receivable: Bank will check the size of receivable because of cost reason. If a firm has lot of small size of receivable then bank will extend small amount of loan and vice versa.
3) Establishing Value Of Loan: In third step, the lender establish the value of loan which is to be granted on the basis of size of receivables.
4) Supplying Of Necessary Documents By Borrower: When the loan value of receivables has been established then borrower sends the following necessary documents.
1) List of accounts
2) Billing data
3) Amounts involved
4) Credit terms
5) Any evidence like shipping documents to the lender.
After evaluating the above things the lender extends loan to the firm.
Methods Of Pledging Receivable: There are two methods of pledging receivables.
1) Notification Method: Through this method the borrowing firm notifies its accounts that payment on the receivable are to be made directly to lender. So, the customer of borrowing firm pays to lender directly.
2) Non-Notification Method: In this method the borrower customer do not know that their accounts have been pledged and they pay the borrower in the usual manner is caused non-notification method.
Factoring Of Receivables: Factoring means selling therefore factoring of receivables means selling of receivables.
Definition: L.J Gilman define it as “the outright sale of accounts receivable at a discount to a factor or other financial institution to obtain funds”. In simply we can say that the sale of receivables to the factors is called factoring.
Features: Following are the same features of factoring of accounts receivables.
1) In this arrangement, accounts receivables are sold to the factor i.e. financial institution.
2) In this case risk of non-payment will transfer to the factor.
3) The title of receivable will transfer remain with the factor.
4) Legal ownership of receivables transfers to the factor.
1) Factoring Procedure: Factoring procedure can be easily understand with clear that in factoring first of all the seller firm receives a purchase order from. Buyer/customer and then get permission from factor/bank to extend loan/goods. After evaluate the credit worthiness of customer/buyer the bank grants permission or credit approved to the seller, then the firm ships goods to its customer, asking to make payment to factor. In last step the factor deposited the payment in seller account after deducted fees.
2) Use Of Inventory As Collateral Or Pledging Inventory: In this case a firm or borrower can obtain loan by pledging inventory as a collateral.
Features Of Pledging Inventory: Bank will accept inventory as a collateral keeping in used its four major features.
1) Nature Of Inventory: If inventory is perishable then bank avoids to extend loan because its value as collateral is low as compare to duration goods and bank will extend against durable goods.
2) Market Ability: If inventory’s market ability is higher than its value as a collateral is considered high and vice versa.
3) Price Stability: If the price of inventory is stable then bank will extend loan against the inventory and vice versa.
4) Cost: Cost of pledging inventory includes cost of interest rate and service charges because lender incurs some cost on keeping task to make sure that loan is backup by same collateral.
Methods Of Pledging Inventory: To obtain short term bank loan the inventory can be pledged in three different ways.
1) Blanket/Floating Inventory Lieu
2) Trust Receipt Inventory Loans
3) Warehouse Receipt Inventory Loan
I. Public Ware Houses
II. Field Ware Houses
Now we can discuss them in detail one by one given as under;
Blanket/Floating Inventory Lieu: A lender’s claims on the borrower’s general inventory as collateral for a secured loan is called blanket/floating inventory lieu.
Features: Following are the some features of blanket inventory lieu which are given as under;
· The inventory pledged under this arrangement consists of;
1) Low price items
2) Small size items
3) That items which can be identify by placing numbers.
· Borrower pledges all his inventory it means lender has claim on inventory in general.
· Inventory remains in the having of borrower and he is free to sell it and made the payment.
· Proceeds of sale are remitted with bank.
Trust Receipt Inventory Loan: A trust receipt is a instrument acknowledging that the borrower held the goods in trust for the lender.
Features: Following are the some feature of trust receipt inventory loan.
Ø The inventory pledged under this arrangement consists of;
1) High Price Items
2) Large Size Items
3) Easily Identified Items Number And Tags
Ø The borrower is free to safe the items but is trusted to remit the payment against each items along accrued interest to the lender immediately after sale.
Ø The bank extended loan up to 80% to 100% of the cost of inventory under this arrangement.
Warehouse Receipt Loan: Warehouse is the third party which is engaged to held the inventory on a security on the behalf of the lender.
Explanation: Under this arrangement the lender receives control of the pledged inventory collateral which is stored by a designated agent on the lender’s behalf. After selecting acceptable collateral, the lender likes a warehouse company to act as its agent and take possession of the inventory.
Types Of Warehousing Arrangements: There are two types of warehouse receipt loan.
1) Public Warehouse: Under this arrangement the goods are stored in warehouse and receipt of goods is held by the lender. Inventory can only be released when the proper permission is presented at the warehouse.
2) Field Warehouse: Under this arrangement borrower and lender agrees to establish a field warehouse on the borrower premises for this purpose a certain area is designated as the field warehouse and is segregated by a fence or some other security arrangement to certain inventory.