FNAN 321- Chapter 3 Financial Services: Finance Companies.
What have been the primary source of financing for finance companies?
Finance companies have relied primarily on short-term commercial paper and long-term notes and bonds. While bank credit has been a major source of funds, the use of bank credit has been declining, as finance companies have become major issuers of commercial paper, often with direct placements to mutual funds and pensions funds. Almost 60 percent of finance company funding comes from debt from parent company and debt not elsewhere classified
How do finance companies make money. what risks does this process entail? How do these risks differ for a finance company versus a commercial bank
Finance companies make money when they borrow money at a lower rate than they lend it out at. This is like a commercial bank. The main difference is that a bank gets most of its money from deposits, while a finance company gets most of its money from money and capital market borrowing. When a lot of money comes from public debt, the main risk is that the commercial paper market and other debt markets will remain deep. As we saw during the financial crisis of 2008-2009, recessions can hurt these markets more than they hurt the commercial banking sector when deposits leave. Also, customers with more risky assets may have a bigger effect on the finance companies.
Why do finance companies face less regulations than commercial banks. How does this advantage translate into performance advantage. What is the major performance disadvantage?
By not taking deposits, regulators don't have to figure out how a finance company's failure could affect the economy's safety and soundness. The performance benefit is that Financial institutions don't have to deal with the heavy regulatory burden, but the downside is that they can't use a cheaper source of deposit funds. But because of the effect that non-bank FIs, like finance companies, had on the U.S. economy during the financial crisis and because the Federal Reserve had to bail out a few non-bank FIs, regulators have suggested that non-bank FIs be watched more closely.
What are three major type of finance companies? To which market segment does each of these types of companies provide service.
The three types of finance companies are (1) sales finance institutions, (2) personal credit institutions, and (3) business credit institutions. i. Sales finance companies specialize in making loans to customers of a particular retailer or manufacturer. An example is General Motors Acceptance Corporation. ii. Personal credit institutions specialize in making installment loans to consumers. Business credit institutions provide specialty financing, such as equipment leasing and factoring, to corporations. iii. Business credit institutions' equipment leasing and factoring. Factoring involves the purchasing of accounts receivable at a discount from corporate customers and assuming the responsibility of collection. Citi Group and U.S. Bancorp.
What advantages do finance companies have over commercial banks in offering services to small business customers? What are the major subcategories of business loans. Which category is the largest?
a. FI are not subject to regulations that restrict the types of products and services they can offer. b. FI don't take deposit and result less monitoring. c. The goods and services of finance companies are better because these goods are subsidiary of the industrial corporations. d. The FI takes more customer risk e. The FI have less overhead, but commercial banks have more overhead. f. Major subcategories of business loans are retail and wholesale motor vehicle loans and leases. Equipment loans and other business loans. Finance firms are the largest issuers of short-term commercial paper.
