Credit Instruments (3)[1]

8/22/2019 Credit Instruments (3)[1]

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Credit InstrumentsRequirements of an Effective Financial SystemRole of Financial Intermediaries

Structure of Financial Intermediaries


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What is credit instrument?

A credit instrument refers to a promise, or order, topay a definite or determinable sum of money to bearer,or to a specified person or his order.

Simply Defined as:

A document which gives evidence of a credit

obligations resulting for a past transaction which setsforth the responsibility of the debtor to his creditor.


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Classes of Credit Instrument

Investment Credit

InstrumentCommercial Credit

Instrument

Bonds Promise to Pay

Short-term Notes Orders to Pay

Stock


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Investment Credit Instrument

(BONDS)Bonds

are the promises to pay the principal as well as theinterest to its holder at a certain specified time indicated in

the instrument. Bonds represent certificates of indebtednesson the part of the corporation which issued them.

May be issued by:

Government

Business Corporation

Generally indicated on theface of certificates


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VARIETY OF BONDS

1. The character of security

2. The provisions governing the payment of

interest and the repayment of principal3. The purpose for which they are issued

4. The nature of the issuer

Credit Instrument

Bonds


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CLASSESOF BONDS1. Nature of the Issuer government, municipal,

corporate, industrial, etc.

2. Nature of Security mortgage, collateral, trust,debenture, guaranteed, income, etc.

3. Maturity long-term, short-term, etc.4. Termination (payment and redemption) convertible,

redeemable, serial, sinking fund, etc.

5. Form of Instrument coupon, registered.

6. Purpose refunding, construction, development,equipment, etc.

Credit Instrument

Bonds


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CLASSIFICATION OF BONDS

Coupon Bonds-have interest coupons attached. Principal is payable

to the bearer, and interest is payable upon surrender of the

coupons. Because title passes without endorsement, these

bonds are also called bearer bonds.

Registered Bonds

-have the name of the owner on the face of the

instrument and cannot be transferred without endorsement.Interest checks are mailed to the holder on record.

Registered bonds are registered as to principal only, and the

attached coupons are payable to the bearer.

Credit Instrument

Bonds


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RETIREMENT OF BONDS

Corporate bonds may be retired through:

CONVER SION- exchanging a new security usually

a preferred stock, for the outstanding issue. REDEMPTION- repayment of cash

REFUNDING - replacing the outstanding bondswith another issue of later maturity, with perhaps

some alternations in the provision and rate of

interest.

Credit Instrument

Bonds


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TWO COMMON REDEMPTION PLANS

SINKING FUNDS PROVISION IN THE INDENTURES

- stipulating that a certain sum is to be set aside each year outof earnings, the appropriation to be used either to retire

outstanding bonds immediately or to be invested and used to acertain bonds at maturity.

ISSUANCE OF A SERIAL BOND

a portion of the bonds mature each year so that a substantialportion, if not all, of the bonds may be retired at the end of theloan period.

Credit Instrument

Bonds


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Credit Instrument

SHORT-TERM NOTES

SHORT-TERM NOTES

May appear similar to bonds- bonds are held to mean long-term debt obligation whichare issued to the general public.

Notes has always signified obligation maturing within comparative

short period of time. (five years and, moreover, havinglimited number of holders)

The term and provision of the debt obligations in notes areset forth in the documents itself while those in bonds areindicated in the separate instrument known as theindenture


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In some instances

Short-term notes are issued purposely in orderto retire a bond issue pending a morepermanent solution to the financial problem of

the corporation. Short-term notes may be used to pay off bank

loans that have become due at time when an

adequate amount of cash in the corporation isnot available.

Credit Instrument

SHORT-TERM NOTES


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STOCKS

Represent permanently investment capital of acorporation contributed by the owners termed asstockholders which are evidenced by certificates.

The owner of the stocks does not directly own any ofthe property of the issuing corporation.

A stock is an evidence of the investment involving a

certain sums of money, an evidence that istransferable to third parties in such a way that theholder may, in normal times, obtain immediate cashthrough that sale of said stock.

Credit Instrument

Stocks


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Share of Stocks

Represents the owners right to a certain portion ofthe assets of corporation upon liquidation and tocertain shares of the profits after prior claims havebeen paid.

To facilitate the transfer of these rights, thecorporation issues a stock certificate to thestockholder.

Certificate of Stock

An evidence of the fact that the holder is the owner ofa share, or a number of shares, of stock.

Credit Instrument

STOCKS


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Types of Stocks

CommonResidual claimant, receiving only that portion of the

corporate income which remains after all other claimantshave been satisfied. There is no fixed rate of earnings on

common stocks.

Preferred

May be referred as to assets or as to dividends, or both.

Holders of preferred stocks have a right to fixed dividendwhich is secondary to that of interest on all classes ofbonds and notes.

Credit InstrumentSTOCKS


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Commercial Credit Instrument

(Promises to Pay)

Promises to Pay

Book Accounts Bank Deposits

Promissory Notes

Credit Instrument


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CREDIT INSTRUMENT

Promises to Pay

Book Accounts open book account

Is considered as the oldest forms of credit

In the majority cases, it is nothing more than aseries of entries in the ledger of the creditor,

showing that, in specific place, the debtor received

certain kinds of goods involving specific amounts of

money for which payment has not been made thenat the time of purchase.


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Unfortunately, this documentaryevidence being in the hands of retail has,

on occasions, precipitatedmisunderstanding between him and hiscustomer owing to the disagreement as tothe exact amount involved in purchase

previously made on credit.

CREDIT INSTRUMENT

Promises to Pay

CREDIT INSTRUMENT


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Economic Standpoint

1. The seller is compelled to act as a banker for the buyer

2. The capital value of the merchandise remains tied up for theduration of the life on the credit term

3. There is lack of sharply defined time for the payment ofaccounts. This circumstances has served as a source ofbusiness friction between the parties concerned.

*Serious Objections to use open book account both from the

economic as well as ethical viewpoint. Dwight E. Beebe et. al

CREDIT INSTRUMENT

Promises to Pay

C S


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Ethical Standpoint

1. The door for litigation is left wide open owing to thefact the seller has only his book account as evidence ofthe transaction as already indicated in passing.

2. The ratio of returned goods is quite high involving salesunder the book account

3. The collections are slow, and losses arising from baddebts are evidently considerable magnitude.

CREDIT INSTRUMENT

Promises to Pay


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Bank Deposits

The greater bulk of circulating medium of exchange comesin the form of bank deposits.

This may be in the form of demand deposits which aresubject to withdrawal upon demand through the use ofchecks, or may be withdrawn only upon due notice of suchintention in advance.

The Bank Deposits are fundamentally not unlike open bookaccounts arising out of commercial transactions.

CREDIT INSTRUMENT

Promises to Pay


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Promissory Notes

- is a written promise of one person to pay

another a definite sum of money at a certain future

time.

- is a very simple type of commercial instrument

as well as one in common use in the field of

consumer and personal credit.

CREDIT INSTRUMENT

Promises to Pay


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Negotiable Promissory NotesNegotiable promissory notes may, by endorsement, be

discounted, sold, used as collateral and otherwise disposedof in the finance markets.

Non-negotiable Promissory Notes

Non-negotiable Promissory notes do not in any wayenjoy such flexibility. As such, the holders of the same must

have to retain them in their possession until their maturity.

CREDIT INSTRUMENT

Promises to Pay


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Advantages

Promissory notes serve as excellent evidence of credittransactions which cannot be disputed.

It serves as effective instrument for the enforcement ofpayment of obligation.

For negotiable type: They are readily transferable by

endorsement and delivery, which makes them performsimilar functions to those of medium ofexchange.(likewise used as collateral to secure loans frombanks)

CREDIT INSTRUMENT

Promises to Pay


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Shortcomings

The desire on the part of a number of buyers to purchasegoods on cash basis in order to take advantage ofdiscounts has militated against promissory notes.

Settlement of obligations by the use of promissory notesfor numerous and frequent purchase is time consuming,cumbersome impractical.

Adjustments are sometimes easily made when no writtenevidence of the debts is used.

CREDIT INSTRUMENT

Promises to Pay


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One-Name Note Single-Name Note

Promissory note is signed by only one

individual.

Two-Name Note

Promissory note signed by two person. Thesecond individual likewise become responsiblefor the payment of the loan obligation in case of

failure on the part of the maker of theinstrument.

CREDIT INSTRUMENT

Promises to Pay

CREDIT INSTRUMENT


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Orders to Pay

In contrast with promises to pay which involves a makerand a payee, orders to pay generally speaking involvesthree parties, namely:

CREDIT INSTRUMENT

Orders to Pay

ORDER PAYMENT

DRAWER DRAWEE PAYEE

1. The Drawer, that is, the party ordering that payment be made2. The Drawee, the party ordered to make payment3. The Payee, the party to whom payment is to be made


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*When the drawer orders that payment be made tohimself (or to cash), the drawer and the payee are thesame person.

The instrument is payable to bearer:

a. When it is expressed to be so payable

b. When it is payable to a person named therein, orbearer

c. When the name of the payee does not purport to bethe name of any person (check payable to theorder of or cash or bills payable or order)

CREDIT INSTRUMENT

Orders to Pay

CREDIT INSTRUMENT


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Checks

Checks may be defined as a written order drawnby a depositor upon a bank directing it to pay on

demand a specified sum of money to the bearer orto the order of some person or corporation named

on the face of the checks the amount against his

deposit account.

CREDIT INSTRUMENT

Orders to Pay

CREDIT INSTRUMENT


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Open Checks

Open check is one without crossing. It does not have tobe presented through a banking account. These checks areknown under the popular term order or bearer checks.

Crossed ChecksCrossed check cannot be presented to the bank for cash

payment.. It may be easily recognized and distinguished bythe presence of two parallel lines appearing on the top lefthand corner of the check. Its use affords a distinct advantageover that of an order or bearer check in that, in the event ofloss, its recovery is quite possible since it cannot be cashedfor payment.

CREDIT INSTRUMENT

Orders to Pay


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Certified Check

Certified check is a check which has been certified by thebank official with respect to the sufficiency of fundscovering the amount indicated on the face on theinstrument.

It is commonly used in commercial transactions where thepayee would like to be assured of receipt of payment.

It is intended as a guarantee that the check will notbounce.

The word certified or its equivalent is stamped on thepace of the check with the accompanying signature of thebank official making the certification.

CREDIT INSTRUMENT

Orders to Pay

CREDIT INSTRUMENT


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Cashiers Check

Cashiers check is the banks order to pay drawn upon itself andsigned by the cashier, payable to the person or firm designated by thedepositor. This is commonly used at present instead of certified checks.

Post-dated Checks

Post-dated checks are checks issued by the drawer showing futuredate. Such instrument cannot be paid before the date it bears nor will itbe acceptable for deposit.

Stale Checks

A check which is not presented to the bank for cash payment nordeposited to payees account after six months from the date it bears . Assuch, it becomes necessary for the payee to request his drawer to issue anew check to replace the stale one.

CREDIT INSTRUMENT

Orders to Pay

CREDIT INSTRUMENT


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Special Checks

Counter Checks

Checks used to withdraw funds of the depositor when his check booklethas been exhausted.

Voucher Checks

Checks that has the accompanying voucher for purpose of keeping anaccurate record of the amounts and purposes for which the checks havebeen received.

Travellers CheckIt is a form of check that is not drawn on any particular bank

but is payable anywhere throughout the world.

CREDIT INSTRUMENT

Orders to Pay


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Advantages(uses)a. Safety and convenience

Keeping large amounts of money in ones home involves

numerous risk like the possibility of theft, destruction by fire,and others. Currency that is stolen is difficult to trace or

recover. The use of checks eliminates such risk

b. Stop-Payment

The payment may be stopped by the maker because the

check has been lost or for various other reasons. Death of adepositor automatically stops payment of his check outstanding, cancels and delegated authority to sign his check andseal his deposit.

CREDIT INSTRUMENT

Orders to Pay


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c. Odd-Amounts

Business transaction involving odd amounts often

times give rise to certain degree of inconvenience

d. Receipt

Checks may serve as a receipt covering any

transaction. They represent permanent evidence of the

fact that payment has been actually made.

e. Large amounts

It may be stated that carrying big amounts of moneysubjects the individual to great dangers. The use of

checks eliminates such risk and danger.

CREDIT INSTRUMENT

Orders to Pay


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Limitations

We can hardly conceive of the payment of a can ofevaporated milk or a kilo of rice by means of checks.

Checks cannot be used as a medium of exchange intransactions involving the immediate delivery ofgoods between people, who do not know one another,as in purchases from the retail store.

Checks are not legal tender. It is a matter of policy onthe part of the business establishment whether to

accept them or not.

Unless checks are carefully written, they can be forgedand amounts raised.

CREDIT INSTRUMENT

Orders to Pay


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Bills of Exchange Draft

Draft is simply defined as an order drawn by one party

who is drawer directing a second party, who is drawee, to paya third party who is the payee, a specified sum of money at acertain determinable date.

CREDIT INSTRUMENT

Orders to Pay


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Classifications

1. Date of payment Demand or Sight Draft the amount indicated on the instrument

is payable upon demand or sight.

Time Draft Payment is to be made only after a lapse of certainstipulated time. Time drafts may cover 60 days, 90 days or 120

days.

2. Character of the Drawee

Bank Draft The drawee is a bank. It is an order written by onebank, directing a second bank to pay a certain sum of money to

order of the person named in the draft. Commercial Draft The drawee is a business concern. It is an

order written by one person or business concern directinganother to pay a certain sum of money to the person to theperson or concern named in the draft, or to his order

CREDIT INSTRUMENT

Orders to Pay

CREDIT INSTRUMENT


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3. Place Where The Parties Reside

Domestic Draft The parties reside in the country.

Foreign Draft The parties resides in a foreign country.

4. Whether the Drafts are Accepted or Not

Ordinary Draft

Accepted Draft accepted Draft may be subdivided into

trade acceptance and bank acceptance.

Trade Acceptance arises when the purchaser or

importer of the good accepts his obligations to the seller

or exporter by writing the word accepted on the face ofthe time draft.

Bank acceptance is a draft drawn upon a bank by a

depositor or borrower, payable to a third party and

accepted by the drawee.

CREDIT INSTRUMENT

Orders to Pay


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CREDIT INSTRUMENT

Orders to Pay

5. Whether Draft are Free or Documented

Documented Draft When no documents

are required to be attached together with

the draft accompanied by the requiredshipping documents. This is very important

especially in international trade.


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Finance


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Finance-deals with the principles, institutions, instruments, andprocedures involved in making payments of all types inour economy.

Includes:

Those for goods and services which are bought forcash and those which are bought on credit and paidlater.

Payments when intangible claims such as stocks and

bonds, are purchased.Finance is concerned with making available for

investment in business and government money that hasbeen saved.


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Requirements of an Effective

Financial System

1. The financial system must provide an efficient medium forexchanging goods and services.

2. The financial system must take it possible for the creationof capital on a scale large enough to met the demands ofthe nations economy.

3. The financial system should provide markets andprocedures for the transfer of claims to wealth, such aspromissory notes and shares of ownership(stocks) in abusiness, and for the conversion of claims into cash.


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ROLE OF FINANCIAL INTERMEDIARIES

To pool the savings of lending customers.

To invest these funds financially on the basis of carefulinvestigation.

To diversify risk to degree unattainable for individualinvestors.

To transform short-term into long-term funds through an

expedient and careful staggering of maturity dates.

To perform insurance and trust functions.

Financial Institution


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Financial Institution

May be defined as:

an organization through which funds in the

form of money or claims in money are assembled

and transferred from those individuals and firmshaving a surplus of economic goods (as represented

by such funds) to other individuals and firms whoseneeds for funds exceed their existing supply


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Enable individuals to borrow for the purchaseof durable consumer goods, to meet

emergency credit needs, and to invest inland, houses, both new and old.

Assist in meeting the borrowing needs ofgovernment.

Most of all, they assist business enterprises infinancing current output and in acquiringfunds needed for modernization and growth.

Financial Markets


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Financial Markets

Embraces the flow of funds as a whole in the

national economy.

It is where the borrowers and lenders or

investors of funds, i.e., lending and borrowing,are regulated and where the price of funds, thatis, the interest rate, is determined.

The Philippine Financial


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The Philippine Financial

System

CATEGORIES:

Banking institution

Non-Banking Financial Intermediaries

Non-Bank Thrift Institution

Banking Institution


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Banking Institution

-are entries authorized by the Central Bankof the Philippines to engage regularly inlending of funds obtained from the publicthrough the receipt of deposits of any kind.

Commercial Banks


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Commercial Banks

A commercial bank is any corporation

which accepts or creates demanddeposits subject to withdrawal bychecks.

Thrift Banks

They are banking institutionsorganized primarily to encouragedeposits.


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Kinds of Thrift Banks

a. Private Development Banks

any bank organized in accordance with

the Private Development Banks Act, with the

primary purpose ofpromoting agriculture and

industryand at the same time place within easyreach of the people the medium and long-termcredit facilities at reasonable cost, to finance the

socio-economic programs of the government and

to meet the needs of capital of Filipinoentrepreneur.


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b. Savings and Mortgage Banks Any corporation authorized by the

Central Bank of the Philippines for the purpose

of accumulating savings deposits and investing

them together form of security, or in loans forpersonal finances and long-term financing for

home building and home development.


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c. Stock Savings and Loan Association Any corporation authorized to engage in

the business of accumulating the savings of its

members or stockholders, and using such

accumulations together with its capital, for loanand/or investment in securities of productive

enterprises or in securities of the Government,

on any of its political subdivisions,

instrumentalities or corporation.


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Rural Banks

The primary purpose of this bank is to promote and

expand the rural economy in an orderly andeffective manner, by providing the people of theirrural communities with the means of proving andfacilitating their productive activities and to

encourage cooperatives.

Specialized Government Banks

These are government controlled Banks organized forspecific purpose(s) in accordance with their respectivecharters.


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Development Bank of The Philippines

the purpose of this bank is to provide long-temcredit facilities for the rehabilitation, development, and

expansion of agriculture and industry, the

reconstruction of property damaged by war, the

broadening and the diversification of the nationaleconomy, and to promote the establishment of private

development banks in the provinces and cities.


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Philippine Amanah Bank

its purpose is to provide credit, commercial, development

and savings banking facilities at reasonable term to thepeople of primarily Muslim province in Mindanao. Operatesunder the Islamic concept of banking called mudraba

Land Bank of the Philippines

its purpose is to provide timely and adequate financialsupport in all phases involved in the execution of neededagrarian reform.


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Offshore Banking Units (OBUs) Is any branch, subsidiary, or affiliate of a

foreign banking corporation that can conductbanking transactions in foreign currencies

involving the receipt of funds principally fromexternal sources and the subsequent utilizationof said funds for undertaking inside of outsidethe country.


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Non-Banking Financial Intermediaries

Persons or entities whose principal function include the

lending, investing or placement of funds or evidences ofindebtedness or equity deposited with them, acquired bythem, or otherwise coursed through them either for theirown or for the account of others.

*QUASI-BANKING FUNCTIONS(QBF) borrowing of funds, for

the borrowers own account, through the issuance,

endorsement, or acceptance of debt instruments of any kind

other than deposits, from 20 or more lenders at any one time,

for purposes of relending or purchasing of receivables andother obligations.

Kinds of Non Banking Financial


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Kinds of Non-Banking Financial

Intermediarieso

Investment Houses engages or purport to engage in the underwriting of

securities of another person or enterprise, includingsecurities of the government and its instrumentalities. Theyare considered the sophisticated type of non-bank financialintermediaries and is the largest group in the non-banksector in terms of assets.

o Financing Companies

any corporation/ partnership organized for the purpose ofextending credit facilities to consumers and to industrial,commercial, or agricultural enterprises


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o Security Dealer/Broker

-A SECURITY DEALER is one who buys and sells securities ofanother or acquire securities for the purpose of reselling oroffering them for sale to the public, or otherwise dealing ortrading in securities for profit. They do not receive commissionbut income or loss is derived from trading, that is, difference in

buying and selling price of securities.

- A SECURITY BROKER is a person engaged in the business ofeffecting transactions in securities for the account of others.

He is a go-between in arranging for a buyer to meet a seller ofsecurity and when the transaction is completed, he earns acommission.

o Investment Company


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p y

Any issuer which is or holds itself out as beingengaged primarily or proposes to engage, in the business

of investing, re-investing or trading in the securities maybe described as an investment company.

KINDS

. Open-ended or Mutual Fund offering for sale or has outstanding redeemable securities

of which it is the issuer

Close-ended Company

organized as a holding company whose shares are notredeemable.

o Funds Manager


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o Funds Manager

Refers to the juridical or natural persons engagedin all forms of administration of property, or money or its

equivalent, for the benefit of the owner or a third person.

o Lending Investor

A person who makes a practice of lending moneyfor themselves or others. They use their own capital for thepurposes of extending all types of loans, generally short-term, oftentimes without collateral. When they charge

interest rates in excess of what the law allows, theybecome what are known as usurious money-lenders orloan-sharks As such, their activities become anti-social.

o Pawnshop


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o Pawnshop

A pawnshop refers to a person or entity engaged

in the business of lending money on personal

property delivered as security.

o Money Broker

A money broker is a financial intermediariesengaged in the business of money broking, i.e., and

matching borrower with lender or buyer with seller, at

an agreed rate and taking no trading position.


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Non-Banking Thrift Institution

These thrift institutions which are organized

as non-bank entities without any banking or

quasi-banking function, are of two kinds,

namely:

1. Mutual Building and Loan Associations

2. Non-Stock Savings and Loan Associations

M t al B ilding and Loan Associations


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o Mutual Building and Loan Associations

Any corporation whose capital is required or ispermitted to be paid by the stockholders in regular, equal

periodic payments and whose purpose is to accumulatethe savings of its stockholders, to repay to saidstockholders their accumulated saving and profits.

o Non-stock Savings and Loan Association Anyassociation engaged on the business of accumulatingthe savings of its members and using such

accumulations for loans to its member-depositors.

Principal Sources of Funds


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Principal Sources of Funds

Capital Contributions These are the original paid incapital of stockholders/members and in additionpayments of subscriptions/ instalments, if any.

Deposits There are three kinds of deposits, namely;savings, time and demand deposits, which are true in

commercial banks, some thrift banks and some ruralbanks, while other banks can only service and acceptsavings and time deposits.

Rediscounting of Notes This refers to the borrowingsfrom the Central Bank against eligible loan papersoffered as collateral.

i f d i d i S


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Borrowings from domestic and Foreign Sources

Banks and non-bank financial intermediaries

may also borrow from other institution, domestic orforeign depending on its funds requirements.

Deposit substitute liabilities

This refers to the method of borrowing that non-

bank financial intermediaries with QBF may engage,

such as the issuance, endorsement, or acceptance of

debt instruments of any kind, other than deposits.


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Credit Instruments (3)[1]

Documents

Transcript of Credit Instruments (3)[1]