Financial Institution And Small Business Investment Companies
Development Banks – These banks are owned by government. In Nigeria they include Bank of Industry (BOI) Nigerian Agricultural, Co-operative and Rural Development Bank (NACRDB); Urban Development Bank, Nigerian Export-Import Bank (NEXIM), etc. These banks grant medium term loan to businesses in Nigeria, especially those businesses with economic development impact.
Financial Institution – Small Business Investment Companies (SBICs)
These are organizations designed to provide special financial assistance to eligible and qualified small businesses. There are several investment companies currently in operation in Nigeria. Examples are the Savings and Loans associations, Primary Mortgage Institutions (PMIs), Private Financing Companies. The loans made by SBICs are not standardized as to terms. They vary in duration, method of repaying the principal, provision for collateral, types of covenant specified, and other details. This situation is quite inevitable since there are a wide variety of types of borrowers seeking funds from these financial institution and the range of risk situations is almost endless.
Insurance Companies
Life insurance companies provide substantial amounts of medium term business credit in the form of term loans. They seek or are sought for by only the larger, better known borrowers with good credit risk. These loans serves as security, they are secured by mortgages so as to ensure the insurance doesn’t fail.
Finance Companies
Finance companies provide financing for the purchase of equipment and their operations are highly sensitive to money and capital markets conditions which are subject to frequent changes over the life of such loans. They also buy and lease assets to customers. Finance companies charge higher interest rates, loan fees, discounts, some form of equity compensation to offset their higher cost of funds, greater loan losses, and higher loan-service expenses. They raise their funds through public offerings of bonds, commercial paper, equity, commercial banks line of credit, insurance companies and other long-term investors. Therefore, their cost of funds starts from where institutional yield like prime loans stops. They seek higher yielding and relatively more risky outlets for their funds in order to cover their costs and produce a reasonable return to stock holders.
Loan Brokers or Finders
Medium term financing intermediaries are usually known as loan brokers or finders. They generally have well established contracts with several financial institution. The loan broker determines the sort of financing needed, the risks involved, the cost the borrower would bear and the most likely sources of financing. The broker or finder will then proceed to negotiate the financing and attempt to facilitate the arrangement through to the final closing. The broker’s fees are usually expressed in percentage of the total loan involved. The borrower absorbs most of all or all of these fees. Some lenders also pay fee to brokers and it is quite possible that the intermediary will receive fees from both parties.
Retained Earnings
Retained earnings is that part of total earnings of a firm that has not been paid out as ordinary dividend but instead reinvested in the firm. In the balance sheet, retained earning is recorded as amount retained or the total sum earned and retained at the end of for each business year by the firm. It is a cheap source of finance and avoids dilution of ownership control because there is no issue of new shares to outsiders.
Deprecation
Deprecation is an annual charge against income that reflects the cost of the capital equipment used in the production process. This simply refers to the charges made on any loss in value as regards consumption any fixed assets, it is also a non-cash expense. It reduces fixed asset value and shifts the equivalent values back to working capital accounts from where they can be reinvested.
Depreciation is a tax-deductible expense. It permits the firm to retain the same account of cash income without an income tax liability. It reduces profit figure, income tax, rate of return and affects dividend policy.
Depreciation amount is added to profit after taxes to determine the firm’s cash flow and rate of payback on capital outlays.
Methods of charging depreciation are:
(1) Straight line
(2) Declining balance
(3) Sum of the years digits
(4) Units of production.
(a) Straight Line With this method a uniform annual depreciation charge is got by dividing total cost minus salvage value of the asset by the useful life of the asset.
i.e.
Depreciation =
Cost of Asset – Salvage value / Number of years of useful life
(b) Double Declining Balance: With this method, if the depreciation rate under straight line method is (Depreciation Amount) + (cost of asset less salvage value) = 10%; the double declining rate would be 2 x 10% = 20%.
This rate (i.e. 20%) is applied each year to the under appreciate value of the asset at the close of the previous year. For example, when the straight line rate is estimated at 10%, and the economic life is = 10 years period, while the cost of asset is N10,000 (ten thousand naira only); the salvage value will be = N1000 (one thousand naira).