What is a Financial Facility?
A financial facility is a structured program offered by lending institutions to provide businesses with the necessary operating capital. Types of facilities include overdraft services, deferred payment plans, lines of credit (LOC), revolving credit, term loans, letters of credit, and swingline loans. In essence, a facility serves as another term for a business loan.
Key Takeaways
- Financial facilities are instrumental programs from banks and lending institutions designed to support businesses.
- Primary facility options encompass overdraft services, business lines of credit, term loans, and letters of credit.
- A facility is essentially synonymous with a loan taken out by a company.
How Does a Facility Work?
A facility is a contractual agreement between a company and a lender—be it public or private—that grants the business access to a specific amount of money for a variety of purposes over a short period. Generally, the loaned amount is fixed and doesn’t necessitate collateral. The borrower repays the loan through monthly or quarterly payments, inclusive of interest, until the debt is cleared.
Facilities are vitally important for businesses looking to avoid layoffs, stagnate growth, or closure during seasonal downturns in revenue.
Example: If a jewelry store experiences low sales in December, the owner can request a $2 million facility from a bank. This facility ensures smooth business operations with repayment scheduled over monthly installments up until July, when business activity resumes.
Examples of Financial Facilities
Various facilities cater to short-term borrowers based on the business’s unique requirements. Following facilities can be committed or uncommitted:
Overdraft Services
Overdraft services provide loans to businesses when their cash accounts run empty. These services incur interest and fees on borrowed amounts. Overdraft services often cost less than traditional loans, are expedited, and lack early payoff penalties.
Business Lines of Credit (LOC)
An unsecured business line of credit offers corporations access to funds as needed at competitive rates, coupled with flexible repayment choices. Conventional lines of credit grant check-writing privileges, slate for annual review, and may be called early by the lender. Non-traditional lines provide rapid access to funds and high credit limits.
Revolving credit, a variant of LOCs, carries a predetermined limit without fixed monthly payments, albeit with accruing interest that’s capitalized. Businesses, often struggling with low cash balances and requiring net working capital, favor revolving credit facilities for their accessibility to needed capital.
Term Loans
A term loan, designated by a fixed interest rate and maturity date, assists companies in financing significant investments or purchases. These loans can be intermediate-term—to be paid in under three years with potential balloon payments—or long-term, extending up to 20 years and requiring collateral backing.
Letters of Credit
Letters of credit facilitate both domestic and international trade transactions by assuring payment and fulfillment of obligations between a borrower (buyer) and a seller. Financial institutions act as intermediaries, securing their role as guarantors of these transactions.
Related Terms: collateral, net working capital, revolving credit, commercial loan, committed facility.
