Why Short-Term Financing? Short-term financing is fundamentally providing capital deficit businesses funds for a period of less than a year. The businesses are usually using these funds to run their day-to-day operations such as inventory and supplies ordering, employee wages. There are many methods of which a business can seek short-term financing some of which including Trade Credit, Bank Credit, Commercial Paper, Foreign Borrowing, and Use of Collateral. They will be discussed in details including definition, comparison and contrast of each method.
The first source of short-term financing is Trade Credit. Trade credit is credit one business grants it to another business for the purchase of goods or services and is most available form of short-term financing. This is the basic source of finance and many entrepreneurs do not realize that by acquiring items on credit they are obtaining short-term finance. Trade credit is an essential tool for financing growth. The advantage of trade credit is the payment can be extended to a certain period of time such as 30, 60 or 90 days. The payment can also be reduced if it is made within a stipulated time such as 2/10 net 30, which is 2% discount if paid within 10 days. Businesses should not use trade credit for long-term financing. Businesses use this method as a short-term solution for managing cash flow. By delaying cash outflows, trade credit creates additional cash resources that would otherwise occur at the time of purchase. Businesses should take advantage of trade credit method for purchasing inventory to manage account payables and improving cash flow. The disadvantage of trade credit is to obtain trade credit for new businesses, it usually requires good credit history, which is paying bills on time, and before trade credit can be established.
The second source of short-term financing is Bank Credit. Bank credit is the money borrowed from the bank for the financing of inventory, supporting...