CHAPTER 15 Current Liabilities Management 655SUMMARY
FOCUS ON VALUE
Current liabilities represent an important and generally inexpensive source of financing for
a firm. The level of short-term (current liabilities) financing employed by a firm affects its
profitability and risk. Accounts payable are an inexpensive spontaneous source of short-
term financing. They should be paid as late as possible without damaging the firm’s credit
rating. This strategy will shorten the firm’s cash conversion cycle and reduce its required
investment in operating assets. If vendors offer cash discounts, the firm must consider the
economics of giving up versus taking the discount. Accruals, another spontaneous liability,
should be maximized because they represent free financing. Notes payable, which represent
negotiated short-term financing, can be obtained from banks on an unsecured basis. They
should be obtained at the lowest cost under the best possible terms. Large, well-known
firms can obtain unsecured short-term financing through the sale of commercial paper. On
a secured basis, the firm can obtain loans from banks or commercial finance companies,
using either accounts receivable or inventory as collateral.
WW
Whouse receipt loans are generally higher than those of any other secured lending
arrangements because of the need to hire and pay a warehousing company to
guard and supervise the collateral. The basic interest charged on warehouse
receipt loans is higher than that charged on unsecured loans, generally ranging
from 3 to 5 percent above the prime rate. In addition to the interest charge, the
borrower must absorb the costs of warehousing by paying the warehouse fee,
which is generally between 1 and 3 percent of the amount of the loan. The bor-
rower is normally also required to pay the insurance costs on the warehoused
merchandise. An example of the procedures and costs of a warehouse receipt
loan is included on the book’s web site atwww.aw.com/gitman.Review Questions
15–11 Are secured short-term loans viewed as more risky or less risky than
unsecured short-term loans? Why?
15–12 In general, what interest rates and fees are levied on secured short-term
loans? Why are these rates generally higherthan the rates on unsecured
short-term loans?
15–13 Describe and compare the basic features of the following methods of
using accounts receivableto obtain short-term financing: (a)pledging
accounts receivable, and (b)factoring accounts receivable. Be sure to
mention the institutions that offer each of them.
15–14 For the following methods of using inventoryas short-term loan collat-
eral, describe the basic features of each, and compare their use: (a)float-
ing lien; (b)trust receipt loan; and (c)warehouse receipt loan.