Explain different sources of short-term finance available to the organization

Organizations often need short-term finance to meet immediate operational needs or address temporary cash flow gaps.

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Various sources provide short-term financing options. Here are some common ones:

  1. Trade Credit:
  • Definition: Trade credit is an arrangement where a supplier allows the organization to delay payment for goods or services.
  • Example: A manufacturer might receive materials from a supplier with a payment term of 30 days, giving them time to use the materials in production before making the payment.
  1. Bank Overdraft:
  • Definition: A bank overdraft is a credit facility where a business can withdraw more money from its bank account than it actually has, up to a pre-approved limit.
  • Example: If a company’s cash balance is temporarily low, it can dip into an overdraft to cover immediate expenses.
  1. Short-Term Loans:
  • Definition: Organizations can borrow funds from banks or financial institutions for a specific period with a fixed or variable interest rate.
  • Example: A small business might take out a short-term loan to cover unexpected expenses or capitalize on a time-sensitive opportunity.
  1. Commercial Paper:
  • Definition: Commercial paper is a short-term unsecured promissory note issued by large corporations to raise funds in the money markets.
  • Example: A major corporation might issue commercial paper to quickly raise funds for a short-term project or to manage liquidity.
  1. Invoice Financing or Factoring:
  • Definition: This involves selling accounts receivable to a third party at a discount to obtain immediate cash.
  • Example: A company facing delayed customer payments may use invoice financing to receive cash upfront and maintain cash flow.
  1. Inventory Financing:
  • Definition: This type of financing uses the company’s inventory as collateral to secure a loan or line of credit.
  • Example: A retailer may use inventory financing to obtain funds based on the value of its current inventory, helping to restock shelves or manage seasonal demands.
  1. Working Capital Loans:
  • Definition: Loans specifically designed to fund a company’s day-to-day operational needs and cover short-term expenses.
  • Example: A business experiencing a temporary dip in revenue might use a working capital loan to cover payroll and other operational costs.
  1. Supplier Credit:
  • Definition: Negotiating extended payment terms with suppliers can provide a form of short-term financing.
  • Example: A company may negotiate with suppliers for longer payment terms, allowing them to use goods or services before making the payment.
  1. Government Grants and Subsidies:
  • Definition: Some governments provide grants or subsidies to businesses for specific projects or purposes.
  • Example: A technology company might receive a government grant to fund research and development activities.
  1. Line of Credit:
    • Definition: A pre-approved credit limit that an organization can draw upon when needed, repaying it based on a predetermined schedule.
    • Example: A business might use a line of credit to manage fluctuations in working capital or to seize investment opportunities.

Choosing the appropriate source depends on the organization’s specific needs, financial health, and the purpose for which the funds are required.