Short-Term Financing Options in India

Introduction: Funding the Operating Cycle

“We need ₹50 crore for 90 days to pay suppliers before customer payments arrive.”

This is the classic working capital challenge every business faces. Short-term financing bridges the gap between when you pay expenses and when you receive revenues. Understanding your options helps optimize both cost and flexibility.

Types of Short-Term Financing

Overview

Bank-Based Financing

Cash Credit (CC)

What It Is: A revolving credit facility secured against inventory and receivables (working capital assets).

How It Works:

1. Bank assesses your working capital needs
2. Sanctioned limit based on stock and receivable levels
3. Draw and repay flexibly within limit
4. Interest on utilized amount only

Key Features:

• Limit: Based on drawing power (% of collateral)
• Drawing Power: Calculated monthly
• Interest: On daily utilized balance
• Tenure: Annual renewal

Typical Terms:

• Margin: 25% on inventory, 40% on receivables
• Interest: 9-12% (linked to MCLR/EBLR)
• Processing fee: 0.25-0.50%

Example:

Best For:

• Seasonal businesses
• Fluctuating working capital needs
• Regular business cycles

Working Capital Term Loan (WCTL)

What It Is: A term loan specifically for working capital needs with scheduled repayment.

How It Works:

• Fixed amount disbursed
• Regular EMI or bullet repayment
• Secured against assets

Key Features:

• Lower interest than CC (fixed)
• Predictable repayment schedule
• May have end-use restrictions

Typical Terms:

• Tenure: 1-3 years
• Interest: 9-11%
• Repayment: Monthly/quarterly

Best For:

• Permanent working capital needs
• Companies wanting fixed repayments
• Lower cost than CC

Overdraft (OD)

What It Is: Credit facility linked to current account, allowing withdrawals beyond balance.

Types:

1. Clean Overdraft:

• Based on creditworthiness
• No specific collateral
• Higher interest rate

2. Secured Overdraft:

• Against FD, securities, property
• Lower rate (1-2% above FD rate)
• Limit = 80-90% of collateral

Key Features:

• Easy to access
• Interest on utilized amount
• No specific end-use

Typical Terms:

• Limit: Based on security
• Interest: 10-14% (clean), FD rate +1-2% (secured)
• Tenure: Annual renewal

Best For:

• Short-term funding gaps
• Emergency liquidity
• Companies with collateral

Bill Discounting

What It Is: Converting receivables into immediate cash by selling bills to banks.

Types:

1. Demand Bills:

• Payment on demand
• Immediate discounting

2. Usance Bills:

• Payment on future date
• Discounted at present value

How It Works:

1. Sell goods on credit, draw bill on customer
2. Submit bill to bank
3. Bank pays discounted amount
4. Bank collects from customer on due date

Key Features:

• Converts receivables to cash
• Limited/non-recourse options
• Based on customer credit

Calculation: $$Discount = \frac{Bill\ Amount \times Rate \times Days}{365 \times 100}$$

Example:

• Bill: ₹1 crore
• Days to maturity: 90
• Rate: 10%

$$Discount = \frac{1,00,00,000 \times 10 \times 90}{365 \times 100} = ₹2,46,575$$

Net proceeds = ₹1 crore - ₹2.47 lakh = ₹97.53 lakh

Best For:

• Companies with good quality receivables
• Converting sales to cash quickly
• When customer credit is strong

Market-Based Financing

Commercial Paper (CP)

What It Is: Unsecured money market instrument issued by corporates to raise short-term funds.

Who Can Issue:

• Minimum net worth ₹100 crore (₹4 crore for NBFCs)
• Minimum credit rating: A3 or equivalent
• Working capital facility from banks

Key Features:

• Tenure: 7 days to 1 year
• Minimum denomination: ₹5 lakh
• Issued at discount to face value
• Tradeable in secondary market

RBI Guidelines:

• Issued in multiples of ₹5 lakh
• Maximum maturity: 1 year
• No collateral required

Pricing: $$Issue\ Price = \frac{Face\ Value}{1 + (Yield \times Days/365)}$$

Example:

• Face Value: ₹1 crore
• Yield: 8%
• Tenure: 90 days

$$Issue\ Price = \frac{1,00,00,000}{1 + (0.08 \times 90/365)} = ₹98,06,452$$

Discount = ₹1.93 lakh

Advantages:

• Lower cost than bank borrowing
• Flexibility in tenure
• No collateral
• Market visibility

Disadvantages:

• Rating dependent
• Market conditions affect pricing
• Rollover risk

Best For:

• Well-rated companies
• Large funding requirements
• When bank rates are high

Inter-Corporate Deposits (ICDs)

What It Is: Short-term loans between corporates.

Key Features:

• Unsecured typically
• Higher rates than bank financing
• Flexible terms
• Credit risk

Typical Terms:

• Tenure: 3-12 months
• Interest: 10-15%
• Minimum: Usually ₹1 crore

Regulatory Note: Accept deposits provisions may apply. Legal review recommended.

Best For:

• Companies unable to access banks/markets
• Short-term specific needs
• Group company arrangements

Trade Finance

Letter of Credit (LC)

What It Is: Bank guarantee to pay seller on behalf of buyer.

Types:

How It Works:

1. Buyer requests LC from bank
2. Bank issues LC to seller’s bank
3. Seller ships goods, presents documents
4. Bank pays seller
5. Buyer pays bank (immediately or on deferred basis)

Cost Components:

• Opening commission: 0.25-1%
• Confirmation charges (if any)
• Negotiation charges
• Amendment charges

Best For:

• Import transactions
• New supplier relationships
• When supplier requires payment security

Bank Guarantee (BG)

What It Is: Bank’s promise to pay beneficiary if customer defaults.

Types:

Cost:

• Commission: 1-3% p.a.
• Margin: 25-100%

Best For:

• Contract requirements
• Advance receipt
• Regulatory requirements

Supplier Credit (Trade Credit)

What It Is: Credit extended by suppliers for purchases.

Terms:

• Typical: 30-60-90 days
• May include early payment discount

Early Payment Discount Analysis: “2/10 net 30” = 2% discount if paid in 10 days, full amount in 30 days

$$Annualized\ Cost = \frac{Discount%}{100 - Discount%} \times \frac{365}{Days\ Lost}$$

$$Cost = \frac{2}{98} \times \frac{365}{20} = 37.2%$$

Taking full credit period saves money if cost < 37.2%

Best For:

• Regular purchases
• Building supplier relationships
• Low-cost financing

Comparing Financing Options

Cost Comparison (₹1 crore for 90 days)

Feature Comparison

Choosing the Right Mix

Factors to Consider

1. Cost:

• All-in cost including fees
• Floating vs fixed rate
• Commitment fees

2. Flexibility:

• Prepayment options
• Draw/repay ease
• Limit adjustments

3. Availability:

• Credit rating requirements
• Collateral available
• Relationship strength

4. Tenure Match:

• Match financing tenure to need
• Avoid asset-liability mismatch

Recommended Mix

For Most Companies:

For Well-Rated Companies:

Documentation Requirements

Bank Financing

Common Documents:

• Application form
• Financial statements (3 years)
• Bank statements (12 months)
• Stock statements (monthly)
• Receivable aging
• Projected financials
• KYC documents
• Security documents

Commercial Paper

Issuance Documents:

• Board resolution
• Rating letter
• Issuing and Paying Agent agreement
• Private placement memorandum

Trade Finance

LC Documents:

• Application
• Pro-forma invoice
• Import license (if applicable)
• Insurance
• KYC

Key Takeaways

1. Multiple options exist – Choose based on cost, flexibility, availability
2. Cash Credit is versatile – Workhorse of working capital financing
3. Commercial Paper is cheapest – For well-rated companies
4. Bill discounting unlocks receivables – Converts sales to cash
5. Trade credit is free – But evaluate early payment discounts
6. Diversify sources – Don’t depend on single financing source
7. Match tenure to need – Avoid mismatches

Disclaimer

This article is for educational purposes only. Financing costs, terms, and availability vary. Consult with banks and financial advisors for specific financing needs. This is not financial advice.

Frequently Asked Questions

Q: CC or Working Capital Term Loan? A: CC for fluctuating needs (pay interest only when used), term loan for permanent working capital (lower rate, fixed repayment).

Q: How to qualify for Commercial Paper? A: Need credit rating (minimum A3), net worth above ₹100 crore, working capital facility from banks. Contact rated agencies for rating.

Q: What’s the best trade credit strategy? A: Analyze early payment discounts. If annualized cost of missing discount exceeds your borrowing cost, take discount. Otherwise, use full credit period.

Q: How much should we rely on bank financing? A: Diversify—typically 60-70% bank financing, rest from markets (CP) or trade finance (bill discounting, supplier credit). Reduces concentration risk.

Q: How to negotiate better rates? A: Maintain good credit rating, provide clean documentation promptly, build relationships, get competitive quotes, commit volumes, offer additional business.

Short-term financing is like choosing transportation—sometimes you need a taxi (overdraft—quick, flexible, expensive), sometimes a bus (CC—regular, reliable), and sometimes your own car (term loan—you own it, regular costs). The best choice depends on where you’re going and how often.