Funded & Non-funded facilities

Funded facilities
 Working Capital Loans – they are generally of short duration (< 1 year). The duration
may be longer if the working capital gestation period is longer e.g. Boeing.

 Overdraft Facility - revolving loans against current account are called overdrafts or
ODs which are unsecured in nature. The borrower can overdraw funds beyond available
balance up to an agreed limit. Interest is payable only on the money used for the
duration of withdrawal compounded daily. In some countries, a commitment fee is
levied on the unutilized limits. ODs are not good for the banker since it is difficult to
control the end use of funds, ensure repayment & there are high administrative costs.
ODs affect the bank's liquidity.

 Cash Credit (CC) Facility – A bank assesses the average value of inventory &
receivables of a business. Based on these assets as security, a bank issues 60-70% of
asset value as limit on cash credit facility. Just like an OD, borrower can draw on this
limit. The buffer of 30-40% which is kept by the bank is called Margin. The riskier the
asset, the higher the margin. The interest on CC is usually linked to a benchmark rate &
decided periodically. CC is secured in nature unlike OD which is unsecured in nature.

 Working Capital Demand Loans (WCDL) – this is a short term revolving loan
facility given for the working capital requirement of the company. A bank will quote a
rate on WCDL depending on its current cost of funds to which the customer must agree.
WCDL limit is fixed but the borrower must negotiate the rate with bank every time he
borrows. WCDL is more common with medium & large companies which have large
working capital requirements unlike CC which is common with small companies. Banks
prefer WCDL more than CC since they have more control over the terms & interest rates
which is useful in an environment where interest rates are fluctuating.

 Long term loans – banks provide these long term loans to finance expansions, buy
real estate or machinery.

 Trade Finance - Corporate banking facilitates international trade. Banks provide loans
to the seller to bridge his funding requirements till he gets paid. This is similar to a
working capital loan.

 Pre-shipment loans – this is working capital for purchasing raw materials, processing
& packaging of export commodities. Most common form is packing credit where the
exporter gets concessional interest rates.

 Post-shipment loans – these loans help exporters bridge their funding requirements
when they export on deferred payment basis i.e. credit.
 Bill Discounting is an example. It provides liquidity to the exporter. The bank will
discount the trade bill which is accepted & endorsed to the bank by the buyer. The bank
will advance the exporter a portion of the face value of trade bill.

 Forfaiting is the process when exporter has an agreement with the bank to discount his
entire medium term receivables (not a single bill but all his bills).

 Factoring is the process when exporter has an agreement with the bank to discount his
entire short term receivables (not a single bill but all his bills).

 Bill discounting & factoring can also happen for domestic transactions.

 Bank has recourse to the seller since in case of non-payment by the buyer after credit
period expiration; the seller must compensate the bank.

 Bill discounting is always with recourse.

 In factoring, a bank can discount bills with/without recourse & even with partial
recourse. This is called Assignment of Receivables.

Non-Funded Facilities
 Trade Finance

 Intermediaries – banks can act as intermediaries for documents & funds flow in
international transactions as transfer through banks is more secure.

 International trade payment mechanisms

 Letter of credit – it is also called Documentary Credit (DC). The bank lends its
guarantee of payment to the buyer. The bank also guarantees payment to the seller
provided he ships the goods & complies with the terms of agreement. Here seller takes
credit risk on the bank instead of buyer. The importer gets credit from the bank &
doesn’t have to make advance payment.

 Cash in advance – buyer pays seller before shipment of goods. This is most
advantageous to the seller & least advantageous to the buyer.

 Open account or credit – this means that payment is made on an agreed upon future
date. This is very risky for a seller unless he has very strong relationship with the buyer
or the buyer has excellent credit rating. There are no guarantees & collecting payment
often becomes a tedious affair.

 Cash Management Services (CMS) – It has no credit risk for the bank. It is a pure
administrative service for the corporate. The client maintains only one account with the
bank. Cash management encompasses receivables management, payables management
& liquidity management. Banks are using better technologies for cash management by
connecting to ERP systems.

Credit Evaluation
This is undertaken by the bank to determine whether to make a loan to the client or not.
This function analyzes the credibility of the client. Based on the evaluation, a credit
rating is given which impacts the amount, rate, tenor, security, and frequency of
monitoring.

Credit evaluation involves qualitative & quantitative analysis of a company. Qualitative

Facility Structure

This is where the bank structures the loan i.e. decides the various loan parameters. It
comes after credit evaluation is completed.

Credit Monitoring

Bank should ensure that the collateral is intact & also the proper end-use of funds. It
should also inspect the inventory to determine that the working capital requirement is
realistic & the company has adequate insurance cover to guard against any unforeseen
events that might affect the bank.

A typical monitoring report will also have an ageing analysis to specify whether any loans
or interest payments are overdue and for how long. It classifies the loans on the basis of
maturity. Such reports are generated by the core banking solution in a bank.

Bank Guarantees

Through a Bank Guarantee, the bank guarantees the performance of a contract or the
non-happening of an event such as an event of default to the beneficiary. Bank
guarantees can be financial or performance in nature.

Performance guarantee is given when the guarantor or issuing bank guarantees the
ability of the applicant to perform a contract to the beneficiary’s satisfaction. Financial
guarantees are used to secure a financial commitment such as a loan, security deposit
etc.

For example, if a supplier takes advance payments to supply high value goods then he
must provide performance guarantee to the buyer.