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TYPES OF SHORT-TERM FINANCING:

A. SPONTANEOUS SOURCES OF FINANCING:

2) Credit trading/ Trade credit:

Credit trading is a credit facility offered by a supplier to customers in
an effort to increase their sales. Usually the supplier does not require
any collateral. Source of funding is based on faith of providers to the
purchaser.

Credit terms commonly used is 2/10 net 30. This means buyers get a
discount of two percent if payment is made within 10 days. If the
discount is negligible, the payment must be made within 30 days.

There will be an effective cost to the buyer if there are discounts from
suppliers. This is because the buyer will have to bear high costs if the
discount is negligible.

Trade credit is :

Most flexible sources of short term financing

Credit effective cost, EC = × 360
1− −
Generally:
i. Effective cost exists only when discount is ignored. If payment is
made within the discounted period, the effective cost is equal to zero.
ii. Effective cost will increase if payment is made earlier.
iii. Effective cost will be reduced if the payment is delayed.

Example 1:

XYZ Company is given several credit terms from three suppliers:

1) 2 / 10 net 30
2) 2 / 10 net 60
3) 3 / 10 net 50
4) 3 / 10 net 55

Based on the above credit terms, provide the best option for XYZ
Company if payment is made at the end of the term.