Commercial Banks

Meaning: Commercial banks occupy a vital position because they provide funds for different purposes and for different time periods. Banks lend to firms of all sizes in many ways:

• Cash credit, overdrafts, term loans, purchase/discounting of bills, and issue of letters of credit.

The rate of interest charged depends on factors such as the characteristics of the firm and the level of interest rates in the economy. The loan is repaid either in a lump sum or in instalments.

Nature of bank credit:

• Bank credit is not a permanent source of funds. Although banks now also lend for longer periods, such loans are generally used for medium to short periods.
• Before sanctioning a loan, the bank requires the borrower to provide some security or create a charge on the firm's assets.

Merits

• Timely assistance — banks provide funds as and when the business needs them.
• Secrecy — information supplied to the bank is kept confidential.
• Fewer formalities — no need for a prospectus or underwriting, making it an easier source of funds.
• Flexible — the loan amount can be increased as business needs grow and repaid in advance when funds are not needed.

Limitations

• Funds are usually available for short periods, and their extension or renewal is uncertain and difficult.
• Banks make a detailed investigation of the company's affairs and financial structure, and may demand security of assets and personal sureties, making the procedure somewhat difficult.
• Difficult terms and conditions may be imposed — for example, restrictions on the sale of mortgaged goods, which can hamper normal business working.

Types of Debentures (Box C): (This box appears alongside the commercial-banks text and details the varieties of the debentures discussed in §8.4.8.)

• Secured and Unsecured: Secured debentures create a charge on the company's assets (mortgaging them); unsecured debentures carry no such charge or security. …