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Commercial Paper

Step-by-Step Guide to Understanding Commercial Paper

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What is Commercial Paper?

Commercial Paper (CP) is a form of short-term, unsecured debt, most often issued by corporates and financial institutions such as banks.

Commercial Paper

Commercial Paper: Definition and Market

Commercial paper (CP) is a money market instrument structured as an unsecured, short-term promissory note with a specified amount to be returned by an agreed-upon date.

Corporations often opt to issue commercial paper for purposes of meeting near-term liquidity needs, or more specifically, short-term working capital needs and expenses like payroll.

The notable benefit to these corporate issuers is that by choosing to raise capital via commercial paper, they do not have to be registered with the Securities and Exchange Commission (SEC) unless the maturity is longer than 270 days.

However, since CP is unsecured (i.e. not backed by collateral ), investors must have faith in the issuer’s ability to repay the principal amount as outlined in the loan agreement.

The issuers of commercial paper are predominately large-sized corporations and financial institutions with high credit ratings .

Commercial paper thereby represents a convenient option for qualified companies to access the capital markets without having to go through the tedious SEC registration process.

Learn More → Commercial Paper Primer ( SEC )

Commercial Paper Terms: Type of Issuers, Interest Rates and Maturities

  • Types of Issuers : CP is issued by large corporations with strong credit ratings as short-term debt to fund their short-term working capital needs.
  • Term : The typical CP term is ~270 days, and the debt is issued at a discount (i.e. zero-coupon bond) as an unsecured promissory note.
  • Denomination : Traditionally, CP is issued in denominations of $100,000, with the primary buyers in the market consisting of institutional investors (e.g. money market funds, mutual funds), insurance companies, and financial institutions.
  • Maturities : The maturities on CP can range from just a handful of days to 270 days, or 9 months. But on average, 30 days tends to be the norm for maturities of commercial paper.
  • Issuance Price : Similar to treasury bills (T-Bills), which are short-term financial instruments backed by the U.S. government, CP is typically issued at a discount from face value.

What are the Risks of Commercial Paper?

The primary downside to commercial paper is that companies are restricted to using the proceeds on current assets, namely inventory and accounts payable (A/P).

Specifically, the cash received as part of the commercial paper arrangement cannot be used to fund capital expenditures (Capex) – i.e. the purchase of long-term fixed assets (PP&E).

CP is unsecured, meaning that it is backed merely by investors’ trust in the issuer. In effect, only large corporations with high credit ratings can issue commercial paper at favorable rates and with enough liquidity (i.e. market demand).

Asset Backed Commercial Paper (ABCP)

One variation of commercial paper is asset backed commercial paper (ABCP) , which is also a short-term issuance but is backed by collateral.

The issuers of ABCP are usually non-bank financial institutions (e.g. conduits) that provide collateral in the form of financial assets such as trade receivables and related payments expected to be received by the issuer in the future.

ABCP tends to be less restrictive and could be used for longer-term spending needs (i.e. capex ), rather than only short-term liquidity and working capital needs.

Before the Great Recession, ABCP formerly represented a substantial proportion of the money market industry, when it was primarily issued by commercial banks. The creditworthiness of ABCP issuances collapsed, however, due to risky collateralization with mortgage-backed securities (MBS), which contributed to the 2008 Global Financial Crisis.

The liquidity crisis that ensued exposed the vulnerabilities in the U.S. money market system, resulting in more strict regulations to be placed and less capital allocated to the ABCP sector.

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What is Commercial Paper?

term paper on commercial bank

Commercial paper is an unsecured short-term debt instrument that financial institutions and other companies may use to raise capital.

🤔 Understanding commercial paper

When companies want to raise capital to pay for operating expenses such as inventory and payroll, they might use commercial paper to do so. Commercial paper is a type of short-term debt that companies can issue, with maturity schedules of 270 days or fewer. This type of debt security can be an attractive choice for the issuing entity, as it's often a more affordable alternative to getting a loan from a bank. Financial institutions and corporations often issue commercial paper. The investors in commercial paper are usually money market mutual funds , which invest in short-term debt securities. Commercial paper can be good for investors, as it often yields a greater return than government-backed debt securities such as Treasury bonds and Treasury bills . The trade-off is that, as with any investment, commercial paper has its fair share of risk.

Suppose that the fictional tech company Vitality & Tech is planning to launch a new smartwatch before Black Friday. The company knows it’s going to get a lot of sales of the watch, but wants to raise a bit of capital to fund the extra inventory upfront. Vitality & Tech issues $5M in commercial paper to pay for the new smartwatches. The maturity date of the debt is six months out, which is when the company will pay back its lenders with interest . The commercial paper allows Vitality & Tech to borrow money — Likely for a more affordable rate than if it took out a loan from a bank.

Issuing commercial paper is like renting an apartment on Airbnb...

When you stay at an Airbnb, you’re basically paying to borrow someone else’s space for a few days. When your reservation ends, you hand the keys back over to the owner. Commercial paper is similar, in that issuers are paying to borrow money from investors for a short period of time, and then handing it back over when the debt instrument reaches maturity. The rent that the Airbnb tenant pays to borrow the space is akin to the interest that a commercial paper issuer pays to investors.

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What is commercial paper?

What are the features of commercial paper, what is the commercial paper market, what are the types of commercial paper, what is the difference between commercial paper and bonds, who can issue commercial paper, who can buy commercial paper, what are commercial paper interest rates, what is the maturity period of commercial paper, what are the advantages and disadvantages of commercial paper, how was commercial paper used during the financial crisis.

Commercial paper is a type of short-term debt security that corporations issue to raise money for immediate costs. The issuers of commercial paper are most often financial institutions such as commercial and investment banks. Commercial paper is usually an unsecured debt, meaning the issuers don’t put up any sort of collateral (which is an asset the lenders can seize if the borrower defaults). Despite that, commercial paper is still a generally low-risk investment due to the high credit rating and healthy balance sheets of the issuing companies.

One important feature of commercial paper is that they’re discount securities. Investors buy the commercial paper for less than the face value. When the investment reaches maturity, the investor gets the full face value. The difference between the purchase price and the face value is the interest the investor receives (aka the discount).

It’s usually financial institutions that issue commercial paper. The commercial paper that these financial companies issue is unsecured, which means there’s no collateral backing it up (collateral is an asset that a lender can seize if a borrower defaults on debt). Instead, the companies are usually large, successful corporations with healthy balance sheets and high credit ratings. Because of this, commercial paper is still generally considered low-risk.

The commercial paper market refers to the transactions where investors buy and sell these debt securities. The commercial paper market isn’t like your local food market where you walk in and peruse the different choices available. Instead, individual investors primarily get into this market by putting cash in money market mutual funds, which often invest in commercial paper.

Per the Uniform Commercial Code, which is the set of laws that governs commercial transactions, there are four types of commercial paper.

A draft is a three-party transaction where one party (the drawer) orders another party (the drawee) to pay a particular sum of money to a third party (the payee) at a particular time.

A check is basically a type of draft, with payment on demand. Common bank checks, certified checks , and cashier’s checks all fall under this category.

A certificate of deposit (CD) is an investment vehicle at a bank in which consumers can put their money and receive a higher interest rate than a traditional savings account, as long as they leave their money for a particular period.

A promissory note is a written promise that one party makes to another to give them a particular amount of money at a particular time. When we talk about commercial paper as a debt security, we’re generally referring to promissory notes.

Like commercial paper, a bond is a debt security that corporations and governments issue to raise money. The two investment vehicles differ in a few ways.

First, commercial paper has a maturity date of less than 270 days (though most often less than 45). Bonds, on the other hand, can have maturity periods ranging from just one year to more than a decade.

Additionally, while commercial paper comes with just one payment for the investor when the security matures, bond issuers make interest payments to bondholders twice per year.

Large companies issue commercial paper to raise capital for short-term spending. Most issuers include companies such as:

  • Commercial banks that accept deposits and lend money to consumers
  • Investment banks that offer services to corporations
  • Industry companies such as General Electric, General Motors, and PepsiCo

The issuers of commercial paper don’t have to put up collateral for these debts. As a result, companies issuing these debt securities must generally have a high credit rating and the trust of investors.

The two biggest investors of commercial paper are money market mutual funds and commercial banks. These two types of investors hold about half of all outstanding commercial paper. Other investors include life insurance companies, pension funds (a type of retirement account that many government entities offer), and corporations outside the financial sector. Just about anyone can be an investor in commercial paper by putting money into a money market mutual fund that invests in these debt securities.

The interest rate (aka the discount rate) for commercial paper is the difference between the amount an investor pays for the debt security and the face value that he or she will get when the paper reaches maturity. Rates may vary depending on whether you’re investing in financial or nonfinancial commercial paper.

As of October 5, 2022, the rate for a 3-month commercial paper from a financial company with a credit rating of AA was 2.76% for August. The rate of a commercial paper from a nonfinancial company with the same rating for the same period was 2.57%.

Under the Securities Act of 1933, securities available to the public have to be registered with the Securities and Exchange Commission (SEC) . Commercial paper is generally exempt from this law, as long as it meets specific rules. One factor that allows commercial paper to avoid registration with the SEC is a maturity period of less than 270 days. While this is the longest maturity that commercial paper can have, most actually have maturities of between five and 45 days.

Commercial paper can be a low-risk investment choice for those who want to diversify their portfolios . The rate of return is generally higher than what you’d get from your run-of-the-mill savings account. And the risk is far lower than putting your money into the stock market . There have been very few defaults on commercial paper over the years, partially stemming from the fact that the companies issuing these debt securities usually have a high credit rating.

Despite their advantages, there are clear downsides as well. First, commercial paper is a type of unsecured debt. So while default is extremely rare, that doesn’t mean it’s impossible. As with any investment, there’s an inherent risk of losing your money.

Another downside to commercial paper is the rate of return. While it can be an effective way to diversify a portfolio, you may not want to invest all your money there to grow wealth. In the 10-year period leading up to 2021, the United States saw an average inflation rate of 2.20%. During that same period, the average return on commercial paper from a financial institution was 0.78%. So had you invested all your money into one-month commercial paper during that time, you actually would have lost money when accounting for inflation.

Before the 2007 financial crisis, investors often used commercial paper as a safe place to park their money due to the high credit rating of the issuers and the short maturity dates. It was the largest short-term debt security on the market, with $1.97T in outstanding debt, mostly in the financial sector.

The tides started to turn in late 2007 when two hedge funds owned by Bear Stearns (an investment bank) filed for bankruptcy. The company prevented investors from pulling out of its funds, which were invested in subprime mortgages. Out of fear that a similar fate would come to commercial paper investments, investors stopped putting their money into them. The amount of outstanding commercial paper investments dropped by 37%.

More than one year later, a money market mutual fund that had invested into the Lehman Brothers’ (another investment bank) commercial paper suffered significant losses. This event triggered investors to pull their money from money market funds. The Federal Reserve had to step in to insure the lost money and to buy commercial paper for the first time in history.

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What Is a Commercial Bank?

How commercial banks work.

  • Significance

Special Considerations

  • Commercial vs. Investment Banks
  • Commercial Bank FAQs

The Bottom Line

  • Personal Finance

How Do Commercial Banks Work, and Why Do They Matter?

Julia Kagan is a financial/consumer journalist and former senior editor, personal finance, of Investopedia.

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Katrina Ávila Munichiello is an experienced editor, writer, fact-checker, and proofreader with more than fourteen years of experience working with print and online publications.

term paper on commercial bank

The term “commercial bank ” refers to a financial institution that accepts deposits , offers checking account services, makes various loans , and offers basic financial products like certificates of deposit (CDs) and savings accounts to individuals and small businesses. A commercial bank is where most people do their banking.

Commercial banks make money by providing and earning interest from loans such as mortgages, auto loans, business loans, and personal loans. Customer deposits provide banks with the capital to make these loans.

Key Takeaways

  • Commercial banks offer basic banking services, including deposit accounts and loans, to consumers and small to midsize businesses.
  • Commercial banks make money from a variety of fees and by earning interest income from loans.
  • Commercial banks have traditionally been located in physical locations, but a growing number now operate exclusively online.
  • Commercial banks are important to the economy because they create capital, credit, and liquidity in the market.

Yurle Villegas / Investopedia

Commercial banks provide basic banking services and products to the general public, both individual consumers and small to midsize businesses. These services include checking and savings accounts; loans and mortgages ; basic investment services such as CDs; and other services such as safe deposit boxes .

Banks make money from service charges and fees . These fees vary based on the products, ranging from account fees (monthly maintenance charges, minimum balance fees, overdraft fees, and non-sufficient funds [NSF] charges), safe deposit box fees, and late fees . Many loan products also contain fees in addition to interest charges.

Banks also earn money from interest they earn by lending out money to other clients. The funds they lend comes from customer deposits. However, the interest rate paid by banks on the money they borrow is less than the rate charged on the money they lend. For example, a bank may offer savings account customers an annual interest rate of 0.25%, while charging mortgage clients 4.75% in interest annually.

Commercial banks have traditionally been located in buildings where customers come to use teller window services and automated teller machines (ATMs) to do their routine banking. With the rise in internet technology, most banks now allow their customers to do most of the same services online that they could do in person, including transfers , deposits, and bill payments .

A growing number of commercial banks operate exclusively online, where all transactions with the commercial bank must be made electronically. Because these banks don’t have any brick-and-mortar locations, they can offer a wider range of products and services at a lower cost—or none at all—to their customers.

Significance of Commercial Banks

Commercial banks are an important part of the economy . They not only provide consumers with an essential service but also help create capital and liquidity in the market.

Commercial banks ensure liquidity by taking the funds that their customers deposit in their accounts and lending them out to others. Commercial banks play a role in the creation of credit , which leads to an increase in production, employment, and consumer spending, thereby boosting the economy .

As such, commercial banks are heavily regulated by a central bank in their country or region. For instance, central banks impose reserve requirements on commercial banks. This means that banks are required to hold a certain percentage of their consumer deposits at the central bank as a cushion if there’s a rush to withdraw funds by the general public .

Customers find commercial bank investments, such as savings accounts and CDs, attractive because they are insured by the Federal Deposit Insurance Corp. (FDIC) , and money can be easily withdrawn. Customers have the option to withdraw money upon demand, and the balances are fully insured up to $250,000. Therefore, banks do not have to pay much for this money.

Many banks pay no interest at all (or at least pay very little) on checking account balances and offer interest rates for savings accounts that are well below U.S. Treasury bond (T-bond) rates.

Consumer lending makes up the bulk of North American bank lending, and of this, residential mortgages make up by far the largest share. Mortgages are used to buy properties, and the homes themselves are often the security that collateralizes the loan. Mortgages are typically written for 30-year repayment periods, and interest rates may be fixed , adjustable , or variable . Although a variety of more exotic mortgage products were offered during the U.S. housing bubble of the 2000s, many of the riskier products, including pick-a-payment mortgages and negative amortization loans , are much less common now.

Automobile lending is another significant category of secured lending for many banks. Compared to mortgage lending, auto loans are typically for shorter terms and higher rates. Banks face extensive competition in auto lending from other financial institutions, like captive auto financing operations run by automobile manufacturers and dealers.

Bank Credit Cards

Credit cards are another significant type of financing. Credit cards are, in essence, personal lines of credit that can be drawn down at any time. Private card issuers offer them through commercial banks.

Visa and Mastercard run the proprietary networks through which money is moved around between the shopper’s bank and the merchant’s bank after a transaction. Not all banks engage in credit card lending, as the rates of default are traditionally much higher than in mortgage lending or other types of secured lending.

That said, credit card lending delivers lucrative fees for banks— interchange fees charged to merchants for accepting the card and entering into the transaction, late-payment fees, currency exchange, over-limit , and other fees for the card user, as well as elevated rates on the balances that credit card users carry from one month to the next.

Commercial Banks vs. Investment Banks

Both commercial and investment banks provide important services and play key roles in the economy. For much of the 20th century, these two branches of the banking industry were generally kept separate from one another in the United States, thanks to the Glass-Steagall Act of 1933 , which was passed during the Great Depression . It was largely repealed by the Gramm-Leach-Bliley Act of 1999 , allowing for the creation of financial holding companies that could have both commercial and investment bank subsidiaries.

While it tore down the commercial and investment bank wall, the Gramm-Leach-Bliley Act did maintain some safeguards: It forbids a bank and a nonbank subsidiary of the same holding company from marketing the products or services of the other entity—to prevent banks from promoting securities underwritten by other subsidiaries to their customers—and placed size limitations on subsidiaries.

While commercial banks have traditionally provided services to individuals and businesses, investment banking offers banking services to large companies and institutional investors . They act as financial intermediaries, providing their clients with underwriting services, merger and acquisition (M&A) strategies, corporate reorganization services, and other types of brokerage services for institutional and high-net-worth individuals (HNWIs) .

While commercial banking clients include individual consumers and small businesses, investment banking clients include governments, hedge funds , other financial institutions, pension funds , and large companies.

Examples of Commercial Banks

Some of the world’s largest financial institutions are commercial banks or have commercial banking operations—many of which can be found in the U.S. For instance, Chase Bank is the commercial banking unit of JPMorgan Chase. Headquartered in New York City, Chase Bank reported more than $3.3 trillion in assets as of September 2022. Bank of America is the second-largest U.S. bank, with more than $2.4 trillion in assets and 67 million customers, including both retail clients and small and midsize businesses.

Is my bank a commercial bank?

Possibly! Commercial banks are what most people think of when they hear the term “bank.” Commercial banks are for-profit institutions that accept deposits, make loans, safeguard assets, and work with many different types of clients, including the general public and businesses. However, if your account is with a community bank or credit union , it probably would not be a commercial bank.

What role do commercial banks play in the economy?

Commercial banks are crucial to the fractional reserve banking system, currently found in most developed countries. This allows banks to extend new loans of up to (typically) 90% of the deposits they have on hand, theoretically growing the economy by freeing capital for lending.

Is my money safe at a commercial bank?

For the most part, yes. Commercial banks are heavily regulated, and most deposit accounts are covered up to $250,000 by the Federal Deposit Insurance Corp. (FDIC). Moreover, commercial banking and investment banking funds cannot be comingled by law.

Commercial banks are a critical component of the U.S. economy by providing vital capital to businesses and individuals in the form of credit and loans. They provide a secure place where people save money, earn interest, and make payments through checks , debit cards , and credit cards.

Commercial banks are typically in brick-and-mortar locations in cities and towns, many with extensive branch networks . A growing number have no physical location, however—instead, they are accessible online and through mobile applications.

Federal Deposit Insurance Corp. “ Understanding Deposit Insurance .”

Federal Reserve History. “ Banking Act of 1933 (Glass-Steagall) .”

GovInfo. “ Public Law 106-102: Gramm-Leach-Bliley Act ,” 113 Stat. 1349 (Page 13 of PDF).

Federal Reserve System. “ Statistical Release: Large Commercial Banks .”

Bank of America, Newsroom. “ Company Overview .”

GovInfo. “ Public Law 106-102: Gramm-Leach-Bliley Act ,” 113 Stat. 1399 (Page 62 of PDF).

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What Is Commercial Paper?

Commercial Paper Explained

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How Does Commercial Paper Work?

Types of commercial paper, commercial paper vs. bonds, pros and cons of commercial paper, is commercial paper worth it.

  • How to Buy Commercial Paper

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When corporations need to raise money, they often bypass a traditional bank lender and issue debt securities directly to investors. One of the ways they do this is by using “commercial paper.” Commercial paper is a type of unsecured debt that companies issue to raise capital on a short timeline.

Understanding what commercial paper means exploring how they work, what types there are, how they compare to bonds, and what advantages and disadvantages they provide investors.

Commercial paper is a short-term debt security that corporations use to raise capital. Because of their short maturity schedules, companies often use commercial paper to cover immediate expenses such as payroll and inventory. Commercial paper has a maturity of up to 270 days, but the average is about 30 days. The issuers of this type of debt security are most often financial institutions and large corporations.  

Commercial paper is usually issued in two possible ways. First, the issuer might sell the debt securities directly to investors. They also might sell them to a dealer, who then turns around and sells them.

Companies issue their commercial paper at a discount, meaning you pay less than the face value of the security. Companies typically write commercial paper in minimum denominations of $100,000 with terms ranging from one to 270 days, though the average maturity on commercial paper is around 30 days. The high minimum denominations make them inaccessible for most individual investors but debt investment tools like money-market funds make them more accessible.

Commercial paper pays a fixed interest rate to investors. Like other interest-based investments, the rates tend to fluctuate with the market. In February 2021, the average monthly rate on a 90-day non-financial commercial paper loan fell to just 0.08%. This rate is down from an average of 1.44% in March 2020.

Though commercial paper is unsecured, the default risk is relatively low. The issuers are generally creditworthy and well-established, and, in many cases, the paper has a rating from credit rating agencies. Standard & Poor’s, for example, issues credit ratings for commercial paper ranging from AAA (highest) to D (lowest).

Like how you pay interest when you borrow money from a bank, corporations must pay interest to borrow money from investors. Imagine that a corporation wanted to raise $1 million to boost its inventory for the holidays. If the interest rate was 1%, the company would sell commercial paper with a face value of $1,010,000. But the buyer would only pay $1 million. The excess $10,000 would be the interest.

A promissory note , sometimes referred to as simply a “note,” is a written promise from one party to another to give them a specific amount of money at a predetermined time. There are only two parties to a promissory note: the payer (company) and payee (you). 

A draft is a written agreement with three parties: the drawer (usually the bank), the drawee (the company), and the payee (you). In this type of transaction, the drawer orders the drawee to pay a specific amount of money to the payee.

A check is a specific type of draft where one of the parties (the drawee) is the bank. With this type of transaction, the drawer (company) instructs the drawee to give a sum of money to the payee (you).

While a draft involves the money being remitted at a specific time, a check is paid on-demand.

Certificates of Deposit

A certificate of deposit (CD) is a bank receipt where the financial institution acknowledges it has received a sum of money, and it agrees to pay it back at a specific time in the future. The certificate holds important information such as the interest rate on the commercial paper and the maturity date.

Commercial paper and bonds are similar in many ways. Both are unsecured debt securities that companies can issue to raise capital but the two also have some notable differences.

Low risk of default

Allows for portfolio diversification for investors

Affordable short-term capital for companies

Unsecured debt

Low interest rate

Not a viable funding source for all companies

Pros Explained

  • Low risk of default : The companies that issue commercial paper are large, creditworthy corporations and the paper often gets ratings from ratings agencies. As a result, there’s a low risk of you losing your investment when you invest in highly-rated commercial paper.
  • Allows for portfolio diversification for investors : Debt securities like commercial paper are an effective way for investors to diversify their portfolio and offset higher-risk investments like stocks.
  • Affordable short-term capital for companies : For companies, commercial paper serves as an affordable and quick way to get the cash they need for operating expenses and other short-term expenses.

Cons Explained

  • Unsecured debt : Commercial paper is an unsecured debt, meaning there’s little recourse for the investor if the company defaults. That being said, commercial paper default is quite rare.
  • Low interest rate : Commercial paper has a generally low interest rate, meaning investors shouldn’t expect a substantial return. The low interest rate presents an inflation risk, as the return is unlikely to keep up with the rate of inflation.
  • Not a viable funding source for smaller companies : Commercial paper is typically only an option for large and extremely creditworthy companies. So, while it can be an excellent affordable funding source, it doesn’t work for all companies.

Investors might find themselves wondering whether commercial paper is really a worthwhile investment. It is true that commercial paper has low rates of return that often don’t even keep up with inflation. In February 2021, the average monthly interest rate on a 90-day nonfinancial commercial paper loan was just 0.08%.   There are some other factors to consider, however. 

The Securities and Exchange Commission recommends that investors practice diversification to help reduce the risk of their portfolio.   Because commercial paper has a low default risk, it may do the trick. Other investments such as long-term bonds and even high-yield savings accounts are likely to offer a higher return, especially when rates are low.

How Can Individual Investors Buy Commercial Paper

Commercial paper isn’t as accessible to individual investors as other opportunities might be. That doesn’t mean you can’t invest in them—it just means the path might look a bit different. Commercial paper is often sold directly to institutional investors like money market funds . Individual investors can include commercial paper in their portfolios by investing in money market funds.

Even if companies sold commercial paper directly to individual investors, the $100,000 minimum would likely be too high for the average person. However, high net-worth individuals can purchase commercial paper through a broker who would buy them on your behalf.

Key Takeaways

  • Commercial paper is a type of short-term unsecured debt security issued by financial institutions and other large corporations.
  • Commercial paper is sold at a discount, meaning the buyer pays less than the face value of the security, and the rate of return is the difference between the purchase price and face value.
  • There are several types of commercial paper, but most come in the form of a promissory note.
  • A commercial paper is different from a bond because it has a shorter maturity and can only be issued by companies, whereas both companies and governments can issue bonds.
  • Individual investors may include commercial paper in their portfolio by investing in money market funds.

Board of Governors of the Federal Reserve System. " Commercial Paper Rates and Outstanding Summary ." Accessed March 17, 2021.

Securities and Exchange Commission. " Primer: Money Market Funds and the Commercial Paper Market ," Page 1. Accessed March 17, 2021.

Federal Reserve Bank of St. Louis. " 90-Day AA Nonfinancial Commercial Paper Interest Rate ." Accessed March 17, 2021.

S&P Global. " Issue Credit Ratings ." Accessed March 17, 2021.

U.S. Securities and Exchange. " Asset Allocation ." Accessed March 17, 2021.

Inspired Economist

Commercial Paper: Understanding its Role in Short-Term Financing

✅ All InspiredEconomist articles and guides have been fact-checked and reviewed for accuracy. Please refer to our editorial policy for additional information.

commercial paper

Commercial Paper Definition

Commercial paper refers to a short-term, unsecured promissory note or debt instrument issued by large corporations to obtain funds to meet short-term debt obligations. It is typically used for the financing of payroll, accounts payable and inventories, and its maturity usually ranges from a few days to 270 days.

Characteristics of Commercial Paper

Commercial paper, due to its unique nature and purpose, has certain distinguishable traits that you should be aware of.

Short-Term Nature

One of the most prevalent characteristics of commercial paper is its short-term nature. These financial instruments typically have a maturity period of less than 270 days. This is because they are designed to meet short-term funding needs and are not meant to be a long-term debt instrument. This limited timeframe often results in less risk for investors, making it a popular choice for those seeking a temporary parking place for their funds.

Unsecured Status

Commercial paper is often unsecured, meaning there are no assets or collateral backing the promise of payment. If the issuing company goes bankrupt or becomes insolvent, there is a risk that the paper would become worthless and investors would lose their money. Despite this risk, the high creditworthiness of issuing companies often overcomes investor concerns about the unsecured nature of the paper.

High Credit Rating

Another common feature of commercial paper is that it's often issued by companies with a high credit rating. The participants in this market are usually financially strong corporations with good credit records. Because the quality of the issuing company plays a pivotal role in the investor's decision, commercial paper is often issued by corporations with top-tier credit ratings.

Role in Corporate Financing and Liquidity Management

Commercial paper plays a key role in corporate financing and liquidity management. Companies often use this instrument to finance their short-term operational needs such as payroll, inventory, and accounts receivables. It's a more cost-effective alternative to bank loans, allowing corporations to meet their immediate financial obligations without tying up their long-term credit lines. On the liquidity management front, commercial paper provides corporations with a tool to balance their cash flow and maintain necessary operational liquidity.

Commercial paper's short-term nature, unsecured status, typically high credit rating, and key role in corporate financing and liquidity management, make it a pivotal instrument in meeting the immediate financial needs of corporations, while presenting a relatively low-risk, short-term investment opportunity for investors.

Issuing Commercial Paper

Before a company issues commercial paper, it first needs to decide whether commercial paper is the right instrument for it. One significant factor that companies often consider is the current interest rate. Compared to long-term financing options, commercial paper will typically have a lower cost due to its shorter maturity period; however, if interest rates are high, the company might still find commercial paper to be expensive. Thus, a future projection of interest rates also comes into play when making a decision.

Another crucial factor is the company's credit rating. Commercial paper is not backed by collateral, which means investors rely entirely on the issuer's credibility. Companies with higher credit ratings can issue commercial paper at a lower cost compared to those with lower ratings since the risk perceived by investors is lesser. Therefore, credit ratings substantially affect the decision to issue commercial paper.

If a company decides to issue commercial paper, it follows a certain procedure. The process generally involves the following steps:

Step-by-Step Process of Issuing Commercial Paper

1. meeting with a financial institution.

The first step for the company is to meet with a financial institution. The institution serves as a dealer by helping to issue and sell the commercial paper. It facilitates the issuance process and provides the necessary liquidity to the company.

2. Preparing the Paper

After the agreement with the financial institution is established, the company prepares the commercial paper. It entails laying down the details such as the maturity period, interest rate, and size of the issue. The company may decide to issue the paper on a discount basis, which means it sells the paper for less than its face value, or on an interest-bearing basis where the company pays the interest at the end of the maturity period.

3. Making the Paper Available

The commercial paper is made available to the potential investors through the dealer. The investors may include institutional investors, corporations, or even individuals, with institutional investors being the most common.

4. Settlement

Once the investor purchases the paper, the funds are transferred to the company, and the investor receives the commercial paper. The company then uses these funds to meet its short-term needs.

The commercial paper issuance process is indeed a strategic decision for companies requiring short-term funding, helping them capitalize on lower borrowing costs compared to traditional means of short-term financing. However, it's crucial to evaluate the factors contributing to this decision and make informed choices.

Buyers of Commercial Paper

Primarily, it is the institutional investors that are typical buyers of commercial papers. Institutional investors can be entities such as pension funds, mutual funds, insurance companies, or commercial banks, to name just a few. Their interest in commercial paper stems largely from the advantages these debt instruments have to offer.

Institutional Investors and Commercial Paper

Institutional investors, due to their financial clout and their need for safe, short-term investments, are perfectly suited to be buyers of commercial paper. These debt instruments offer a way for them to park their funds for a short duration (usually less than 270 days), while they strategize on other long-term investment opportunities.

Low-Risk Income

One of the primary attractions of commercial paper for institutional investors is that it is considered low risk. This is because commercial paper is generally issued by corporations with high credit ratings, meaning the risk of default is typically low. Not to forget that these are unsecured loans, thus, investors rely on the corporation's financial strength and reputation for assurance.

The return on commercial paper, while not as high as more risky investments, is generally better than that offered by government bonds of similar maturity. Therefore, buying commercial paper provides institutional investors with a source of steady and comparatively safe income.

Diversification

Commercial paper also offers a means of portfolio diversification. Diversification is a key strategy in risk management, and buying commercial paper can help institutional investors spread their risk across a variety of assets. Unlike other investments, commercial paper is not correlated with stock market performance, which means its value may remain stable even when the stock market is experiencing turbulence. This makes it an attractive opportunity to balance the risk inherent in other investments.

Quick Liquidity

Commercial papers typically have short maturity periods that allows investors to retain a level of liquidity. This ensures investment flexibility as the institutional investors can quickly turn these papers into cash without significant loss if the need arises.

In conclusion, the features of commercial paper—low risk, consistent returns, diversification benefits, and liquidity—are what primarily draw institutional investors to it. These factors make commercial paper a valuable and strategic tool for these investors.

Risks Associated with Commercial Paper

Credit risk.

Commercial paper is widely considered a safe investment due to its typically high credit ratings and short maturity. However, there is still a level of credit risk involved, especially for investors. Credit risk pertains to the possibility that the issuing entity will default or fail to fulfill their financial obligations, resulting in loss of principal or interest amount for the investor. During the 2008 financial crisis, some high-profile firms that issued commercial paper defaulted owing to poor financial health, leaving investors in a lurch.

Interest Rate Risk

Interest rate risk is more so a concern for issuers than investors. If interest rates rise after a firm has issued commercial paper, the cost of issuing new commercial paper could also increase. In such a situation, the issuer has to pay a higher rate of interest on new issuances. For existing investors, however, a rise in interest rates could potentially increase their yield.

The 2008 financial crisis did elevate this risk, as emergency measures were enacted to combat the economic downturn, leading to fluctuating interest rates.

Liquidity Risk

Finally, liquidity risk is also a vital concern in the realm of commercial paper. This risk refers to the fear that an investor may not be able to buy or sell their holdings in the commercial paper quickly without incurring a substantial loss in value.

Such a situation was evident during the 2008 financial crisis when liquidity in the commercial paper market shrunk rapidly as many investors panicked and tried to sell their holdings, causing a sudden and substantial drop in their value. It also made it harder for issuers to re-issue their commercial paper efficiently, thus disrupting their short-term financing.

While commercial paper generally is a useful financial instrument for both issuers and investors, the financial crisis of 2008 illustrated how these innate risks could materialize and impact all stakeholders involved. Therefore, it is crucial to comprehend these risks before engaging in any commercial paper transactions.

Commercial Paper vs. Other Short-term Instruments

When comparing commercial paper with other short-term debt instruments such as treasury bills and short-term bonds, it's important to look at key factors like yield, credit quality, and liquidity.

Commercial Paper: Commercial paper generally has a higher yield compared to other short-term instruments. This is because commercial paper incorporates a higher level of risk compared to government-backed securities, leading the issuer to offer a higher return to attract investors.

Treasury Bills: The yield on Treasury Bills, or T-Bills, is typically lower than that of commercial paper. T-Bills are considered among the safest investments since they're backed by the full faith and credit of the U.S. government, and therefore, they offer a lower return.

Short-Term Bonds: Similar to T-Bills, short-term bonds have lower yields than commercial paper. Corporate short-term bonds may have slightly higher yields as the risk is usually higher than for T-Bills, but still less than commercial paper.

Credit Quality

Commercial Paper: Generally, only firms with a high credit rating issue commercial paper. However, since commercial paper is unsecured, meaning not backed by collateral, it's usually subject to a greater risk than other short-term instruments, hence a higher yield.

Treasury Bills: As mentioned previously, T-bills are backed by the U.S. government, making them a very safe investment with high credit quality.

Short-Term Bonds: The credit quality of short-term bonds can vary greatly depending on the issuer. Bonds issued by reputable corporations or government entities are typically safer and consequently have lower yields than those from less established issuers.

Commercial Paper: Commercial paper is generally less liquid than T-Bills and short-term bonds. While primary dealers are able to monetize commercial paper, it can be harder for individual investors to sell their holdings before maturity.

Treasury Bills: T-Bills are highly liquid. They have a robust secondary market where investors can buy and sell their positions without much difficulty.

Short-Term Bonds: Liquidity of short-term bonds depends on their issuer and the size of the issue. Bonds from large, reputable issuers are more likely to have a greater degree of liquidity.

In conclusion, while commercial paper, treasury bills, and short-term bonds are all means of short-term financing, they each possess different characteristics in terms of yield, credit quality, and liquidity. It's important for investors to consider these factors when choosing which instrument is the best fit for their investment portfolio.

Commercial Paper and the Financial Market

In the context of the broader financial market, commercial paper tends to hold a significant position. As a form of short-term unsecured borrowing, it serves as a crucial funding source for many corporations. Particularly for the institutions with high credit ratings, issuing commercial paper often becomes a cost-effective way to cater to their short-term liquidity needs.

How Changes in the Commercial Paper Market Act as an Economic Indicator

The commercial paper market is closely watched by economists and financial market participants due to its potential function as an economic indicator. Fluctuations in the commercial paper market can reflect broader economic trends.

Impact on Interest Rates

The volume of commercial paper issuance tends to rise when interest rates are low. This is because companies can borrow at relatively low costs, making commercial paper a more attractive option compared to long-term debt. Conversely, if the volume of issuance drops, it may suggest that companies are finding it more expensive to borrow, implying an upward movement in interest rates.

Reflection of Credit Conditions

The state of the commercial paper market can also signal changes in credit conditions. If companies are issuing less commercial paper, it may mean they are struggling to find buyers, which could suggest tighter credit conditions. This could be because investors are wary of corporations' creditworthiness, either because of issues specific to certain companies or because of broader economic concerns.

Indication of Economic Health

Another way commercial paper offers insights into economic health lies in its maturity structure. When nervousness pervades the market, investors may avoid commercial paper with longer maturities, favoring the relative safety of shorter maturities. An increased skew towards shorter maturity commercial paper could be an indication of financial-market stress, hinting at a softer economic outlook.

These points underscore how changes in the commercial paper market can offer valuable signals about broader economic and financial trends. Yet, it is critical to remember that while analyzing patterns in commercial paper can provide useful chapters of a bigger economic story, they are just one part of the narrative, with many moving pieces influencing overall market dynamics.

Implications of Commercial Paper in CSR and Sustainability

From a Corporate Social Responsibility (CSR) and sustainability standpoint, the issuance of commercial paper carries significant implications. Organisations that champion values such as environmental stewardship, social welfare and economic equality often use commercial paper to further bolster their commitment towards such benchmarks.

###Green Commercial Paper

Of particular interest is the concept of green commercial paper. This novel financial instrument is closely aligned with environmental conservation goals and green economy transitions. As part of sustainability financial strategies, organisations utilise the funds raised through green commercial paper to finance eco-friendly projects and initiatives. Examples may include, but are not limited to, renewable energy projects, waste management solutions, or initiatives aimed at reducing a company's carbon footprint.

Furthermore, this short-term financing solution constitutes an attractive proposition for impact investors. These investors seek the dual-advantage of profitable returns and positive social/environmental outcomes – a criterion that green commercial paper ably fulfils.

###CSR and Stakeholder Engagement

Another key consideration in the nexus of commercial paper and CSR revolves around stakeholder engagement. As stakeholders become more aware and mindful of an organisation's environmental and social practices, they're more likely to show a preference for those thatfinance their activities through sustainable means, like commercial paper.

Given this, organizations issuing commercial paper often enjoy enhanced reputation, augmented customer loyalty, and even potential marketing advantages. On the other hand, companies also need to ensure that they uphold their CSR commitments. A failure to do so can result in reputational damage and lost stakeholder trust, impacting the credibility and tradability of their commercial paper.

###Regulatory Factors

Lastly, regulatory bodies and frameworks that emphasize sustainable finance are also encouraging organizations to incorporate herald economic instruments such as commercial paper into their financial strategies. One prominent example is the European Union’s classification system for green investments, or 'taxonomy', which categorises economic activities based on their environmental impact.

In conclusion, the issuance of commercial paper, particularly green commercial paper, can help organizations align with CSR and sustainability financial strategies. However, it is vital for them to sincerely commit to and implement their sustainability goals to enjoy the full spectrum of benefits from commercial paper.

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What is commercial paper definition and key characteristics.

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A Deep Dive into Commercial Paper

Commercial paper is a form of unsecured short-term debt . Commercial paper is a financial instrument that helps corporations with short-term funding and liquidity needs, such as payroll or accounts payable.

Characteristics of Commercial Paper

Commercial paper has a few distinct features that can make it attractive for corporations:

1. Unsecured Nature

Unlike bonds or loans, commercial paper is not backed by any form of collateral. Instead, it relies on the issuer's creditworthiness .

Companies with stellar credit ratings, such as blue-chip firms, have easier access to the commercial paper market. Conversely, those with lower ratings might find it challenging or expensive to issue.

For instance, tech giants like Microsoft or Apple can easily tap into the commercial paper market, given their robust financial health and strong credit ratings.

Commercial Papers

2. Short-Term Maturity

Commercial papers are strictly short-term instruments . They can have various maturities, but they don’t exceed 270 days. Most are even shorter, with many spanning a month or less.

Because of its short duration, commercial paper allows issuers to manage immediate liquidity needs without locking into long-term debt.

For instance, a company might issue commercial paper to finance inventory ahead of a peak selling season, repaying it once sales are realized.

3. Issued at a Discount or Interest-Bearing

There are two main ways commercial paper can be structured in terms of interest:

Discounted Commercial Paper: Issued below face value. The interest earned by the holder is the difference between the purchase price and its face value at maturity. For example, a $1,000 paper might be issued at $980, and the $20 difference represents the interest.

Interest-bearing Commercial Paper: Has a stated interest rate, similar to a traditional loan. The issuer agrees to pay the principal amount along with the agreed-upon interest at maturity.

The choice between the two usually hinges on market conditions and investor preference. For instance, in an environment with anticipated rising interest rates, investors might lean towards interest-bearing commercial paper to lock in current rates.

4. Denominations

Commercial paper is typically issued in substantial denominations , making it more accessible to institutional investors rather than individual ones.

This large denomination nature narrows down the typical buyers to money market funds, mutual funds, and other large financial institutions. It's not uncommon to find commercial papers with denominations of $100,000 or even $1 million.

5. Absence of Covenants

Unlike some longer-term debt instruments, commercial papers usually don’t come with restrictive covenants . Covenants are conditions that issuers must adhere to, ensuring they maintain a specific financial health level.

This gives issuers more freedom and flexibility but can mean slightly more risk for investors , as there are fewer contractual protections in place.

Types of Commercial Paper

The realm of commercial paper is vast, with different variations designed to cater to specific needs:

Promissory Notes

Direct obligations where companies promise to pay the holder a specified amount on a particular date.

Bankers Acceptances

Post-dated checks that a bank will pay on behalf of its customers. A great example is their use in international trade, where they serve as a guarantee of payment.

Asset-Backed Commercial Paper

Short-term debt is backed by physical assets, like receivables or loans. For instance, during the housing boom, many mortgages were packaged into asset-backed commercial paper.

Benefits of Commercial Paper

Why has commercial paper become a favored choice for many corporations? Here are some compelling reasons:

Cost-Effective Financing

Typically cheaper than bank loans, companies like Apple have leveraged commercial paper to finance their short-term capital needs at lower costs.

Short-Term Investment Avenue

For investors, especially institutional ones like money market funds, it's a chance to park surplus funds for short durations.

Flexibility

Corporations can decide the amount and tenure based on their needs, without committing to long-term obligations.

Potential Risks

However, like any financial instrument, commercial paper has its share of risks:

Default Risk: Being unsecured, there's always the risk of the issuer defaulting. Case in point, the collapse of Lehman Brothers in 2008 sent shockwaves through the commercial paper market.

Interest Rate Risk: Fluctuating interest rates can impact the attractiveness and pricing of existing commercial paper.

Liquidity Risk: In volatile market conditions, the inability to sell commercial paper can become a real concern.

Key Players & Market Dynamics

Key players Commercial Paper

Large corporations and financial institutions. For example, Toyota's financial arm regularly taps the commercial paper market for its funding needs.

Predominantly money market funds, but also other institutional investors looking for safe and short-term investment opportunities..

The Role of Credit Rating Agencies

Credit ratings play a pivotal role in the commercial paper landscape. Agencies like Moody's and S&P evaluate the creditworthiness of issuers, influencing investor decisions. A drop in credit rating can dramatically affect an issuer's ability to tap into this market.

Regulatory Environment & Oversight

The Securities and Exchange Commission (SEC) has its eyes on the commercial paper market, ensuring transparency and protection for investors.

Some papers, given their short maturity, are exempt from detailed SEC registration. However, this doesn't mean they are risk-free, as the events of 2008 illustrated.

Current Trends and the Future of Commercial Paper

Block Chain

Technological advancements, like blockchain , are beginning to find their way into this market, promising more transparency and efficiency.

Moreover, global economic factors, like interest rate policies of central banks, directly influence the demand and supply dynamics of commercial paper. Keeping an eye on these trends is essential for any finance professional.

Commercial paper remains a cornerstone in the vast edifice of corporate finance. For the astute professional, a thorough understanding of this instrument is more than just knowledge – it's a competitive edge. As the world of finance continues to evolve, so will the allure of commercial paper. Embrace it, understand it, and use it to your advantage.

  • Business 101

Commercial Paper

What is commercial paper.

Commercial paper refers to unsecured, brief-term debt documents that corporations release. They are commonly utilized to fund immediate obligations like employee salaries, outstanding accounts, and available goods. Generally, these papers are offered at a price lower than their stated value, mirroring current market interest rates.

This financial tool entails a defined sum of money that must be returned by a specified deadline. The smallest unit is typically $100,000, and the duration until repayment can vary from one to 270 days, with an average of about 30 days.

Unlike individual commercial paper issuances, which have a maximum maturity period of 270 days, a commercial paper program operates over a more extended duration. In cases where the issuer requires an extended duration for the funds, a common practice is to renew the arrangement by introducing new commercial paper, as commercial paper matures. This rollover approach is frequently employed. Additionally, a maximum term constraint of 90 days exists. When a bank resorts to borrowing from the Federal Reserve Bank discount window, collateral is a prerequisite. Notably, the Federal Reserve sanctions commercial paper as collateral exclusively if its term remains within 90 days. This dynamic elevates the demand for commercial paper with maturities of 90 days or less, consequently exerting downward pressure on interest rates.

Commercial Paper

A Brief History of commercial paper

The history of commercial paper traces back over a century, originating when New York merchants initiated the practice of selling their brief-term obligations to intermediaries called dealers. These dealers would acquire the notes at a reduced value compared to their face value and then pass them on to banks or other investors. The borrower would subsequently reimburse the investor an amount equivalent to the note’s face value.

A notable figure in this narrative is Marcus Goldman from Goldman Sachs, who pioneered the role of a dealer in the money market by purchasing commercial paper. Post the Civil War, his company flourished as one of America’s major commercial paper dealers. During this period until World War II, the Federal Reserve engaged in trading commercial paper along with Treasury bills to manipulate the circulation of monetary reserves among banks.

Following the war, an increasing number of companies started issuing commercial paper, which eventually evolved into the primary debt instrument in the money market. This expansion was significantly propelled by the growth of the consumer credit industry. Credit card issuers leveraged funds generated from commercial paper to offer merchant services and facilities, acquiring receivables from customers and yielding profits.

In the 1980s, a contentious debate unfolded concerning whether banks were infringing on the Banking Act of 1933 by underwriting commercial paper, as the SEC didn’t classify it as a bond. Commercial paper remains a pivotal source of short-term financing for investment-grade entities, alongside commercial loans. It continues to play a vital role in the credit card sector.

Rates and pricing

The current rates for commercial paper are publicly disclosed by the Federal Reserve Board on its official website. Additionally, the FRB provides daily updates on the rates applicable to AA-rated financial and non-financial commercial paper through its H.15 Statistical Release, available on weekdays from Monday to Friday at 4:15 p.m. These rates are derived from data sourced from the Depository Trust & Clearing Corporation (DTCC), and their calculation relies on approximating the correlation between the coupon rates of fresh issuances and their respective maturities.

For more insights into rates and trading volumes, comprehensive data reflecting the preceding day’s activities is accessible. Furthermore, detailed figures concerning each outstanding commercial paper issue are released every Wednesday and on the final business day of each month, providing a comprehensive overview of the market’s status.

Pros and cons of commercial papers

Swift Issuance . Commercial paper can be swiftly issued, enabling companies to secure funds promptly when needed.

Versatility . It serves diverse purposes, catering to various short-term financial needs of companies.

Favorable Interest Rates. Commercial paper often features lower interest rates than other short-term borrowing forms.

Credit Enhancement Potential. It has the potential to bolster credit profiles, offering companies better access to capital markets.

Liquidity Risk . The possibility that commercial paper may not find buyers in the secondary market, affecting a company’s ability to sell its short-term debt quickly.

Regulatory Risk. Regulatory framework changes can impact commercial paper issuance and marketability.

Interest Rate Risk . Fluctuations in market interest rates can influence the attractiveness of commercial paper to investors.

Credit Risk. There’s a risk that the issuer might default on payment obligations, causing financial loss to investors holding the commercial paper.

Credit rating. One prominent risk factor in the context of commercial paper pertains to credit ratings. Owing to the intrinsic promissory nature of this financial instrument, it’s essential to acknowledge that only sizable corporations boasting high credit ratings are likely to offer the paper at an acceptable rate. Such companies, often referred to as "blue-chip companies," possess the privilege of issuing these debt instruments without the necessity of collateral backing.

Types of commercial paper

Promissory notes.

Promissory notes, often referred to as notes, constitute written debt instruments where one party commits to repaying a specified sum of money to another party by a predetermined date. Companies frequently utilize promissory notes as a means of issuing commercial paper.

Drafts entail a documented agreement involving three entities: a bank (the drawer), a payer (the drawee), and a payee. The bank instructs the issuer of the commercial paper to disburse a predetermined amount to the lender (payee) at a specific time.

Unlike adhering to a fixed timeline, checks are honored upon request by a bank. They represent the swiftest method for disseminating commercial paper. In this type of commercial paper, the issuing company directs a bank to immediately provide the payee with a designated sum of money.

Certificates of Deposit

A certificate of deposit aligns with its literal meaning: a bank-issued receipt or certificate validating the receipt of a deposited amount from an investor. The bank commits to returning this sum, coupled with interest, at a predetermined future date. The CD also outlines the interest rate and maturity date.

Tax-Exempt Commercial Paper

Tax-exempt commercial paper represents a form of short-term unsecured debt that offers a distinctive advantage to bondholders: the exemption from federal, state, and local taxes on the interest payments. This characteristic makes tax-exempt commercial paper an appealing option for investors seeking to minimize their tax liabilities while participating in the debt market. By providing a means to generate returns without incurring tax obligations on interest earnings, tax-exempt commercial paper aligns with the investment goals of those aiming to optimize their financial strategies within the bounds of tax regulations.

Asset-backed commercial paper

An asset-backed commercial paper (ABCP) stands as a short-term investment mechanism characterized by a maturity date typically ranging from 90 to 270 days. Issued predominantly by financial institutions or banks, these securities exhibit a distinct feature: their backing is derived from tangible assets owned by the issuing company, often encompassing elements such as trade receivables. Functioning as a means to address immediate financial demands, companies employ asset-backed commercial paper to secure short-term financing requirements. The appeal of ABCP lies in its ability to provide investors with a relatively short investment horizon, typically accompanied by the assurance of collateralized backing, enhancing the security profile of this financial instrument.

Terms of commercial paper

Issuer . The entity responsible for generating short-term debt to fulfill immediate cash requirements is known as the issuer of commercial paper. As previously mentioned, most issuers are prominent corporations with strong credit profiles, enhancing the likelihood of prompt debt repayment, particularly within the short-term horizon.

Term/Maturity. The maturity period of commercial paper denotes the duration for which the issuer remains indebted. Commercial paper often holds a maximum term of 270 days, although businesses frequently opt for a 30-day maturity period. Upon maturity, the commercial paper becomes due, and the issuer becomes obligated to reimburse investor funds (although they may opt to renew the issuance).

Secured/Unsecured . Commercial paper commonly lacks collateral, signifying that the issuing company assumes debt without providing assets as security. Should the issuer face insolvency, holders of the commercial paper might not have recourse for fund retrieval. This is justified by issuers’ short maturity and higher creditworthiness, obviating the necessity for corporate asset backing.

Discount/Face Value. Commercial paper is issued at face value, a fixed denomination often set at $100,000. Rather than accruing interest, commercial paper is frequently dispensed at a discounted rate, below its face value. Upon reaching maturity, investors receive the full face value of the instrument, regardless of the discounted amount they initially paid.

Liquidity . The connection between commercial paper and liquidity is pronounced, reflecting a company’s capacity to cover immediate debts using its short-term cash inflows. Consequently, issuers often employ commercial paper to augment liquidity when short-term funds are essential. Conversely, purchasers of commercial paper might not necessitate immediate funds, prompting them to acquire and retain the instrument to bolster future cash reserves.

The difference between commercial paper and bonds?

Both commercial paper and bonds serve as debt instruments, yet several significant distinctions set them apart, offering valuable insights.

Maturity Period

Commercial paper typically matures within the range of one to 270 days.

Bonds, on the other hand, come with maturities spanning one to 30 years. While a portion of a company’s bonds might fall under short-term debt, the majority of bonds usually have longer terms compared to commercial paper.

Payment Structure

Commercial paper operates with a single repayment at maturity, devoid of coupon payments along the way.

Bonds involve regular interest payments, often occurring biannually, throughout the loan’s duration. These payments add an incremental dimension to the return on investment.

Collateral Considerations

In the case of long-term bonds, investors frequently seek security that ensures their priority claim to a company’s assets in the event of any adversity. Consequently, many bonds may possess collateral backing, safeguarding investor interests.

Commercial paper and its riskier bond counterparts might resemble one another more closely in terms of being unsecured, potentially presenting comparable collateral requirements.

Example of commercial paper

For instance, consider a retail company gearing up for the upcoming holiday season and requiring immediate financing of $10 million to acquire new inventory. To fulfill this need, the company issues commercial paper valued at $10.1 million to potential investors, aligning with existing interest rates.

Upon the commercial paper’s maturity, investors effectively receive an interest payment totaling $100,000 in addition to the principal sum of $10 million they initially lent. This corresponds to an interest rate of 1%. The interest rate can be adapted based on the duration the commercial paper remains outstanding, varying with the number of days elapsed.

Let’s assume the commercial paper carries a 30-day term. Consequently, the retail firm secures $10 million upfront, and after 30 days, it repays investors holding the commercial paper a total of $10.1 million. This scenario exemplifies the mechanics of commercial paper issuance and repayment.

Commercial paper markets

Historically, the issuance and trading of commercial paper have primarily occurred among institutions, commonly in denominations of $100,000, with larger notes available in increments of $1,000. Financial entities like investment firms, banks, and mutual funds have traditionally been the primary purchasers in this market, while a limited secondary market for commercial paper exists within the banking sector.

Wealthy individual investors have also had access to commercial paper through private placements. However, the market faced significant turmoil during Lehman Brothers’ bankruptcy in 2008, leading to the implementation of new regulations restricting the type and quantity of commercial paper held within money market mutual funds. Nevertheless, these instruments are progressively becoming accessible to retail investors via online platforms backed by financial subsidiaries.

Commercial paper typically offers a higher interest rate compared to guaranteed instruments, with rates often escalating in tandem with national economic growth. Some financial institutions even allow customers to perform online transfers and write checks using commercial paper fund accounts, similar to cash or money market accounts.

Yet, investors must recognize that these notes lack FDIC insurance coverage. Their security relies solely on the issuer’s financial stability, akin to other corporate bonds or debentures. Standard & Poor’s and Moody’s regularly rate commercial paper, employing the same rating system applied to corporate bonds. The highest ratings are AAA and Aaa, respectively. Similar to other debt investments, commercial paper with lower ratings offers higher interest rates. However, the absence of a market for lower-rated paper is notable, as commercial paper issuance is confined to investment-grade companies.

Is commercial paper considered a type of debt?

Indeed, commercial paper is categorized as a form of debt. It entails the issuance of unsecured, short-term debt by institutions aiming to acquire capital for brief periods. This offers an alternative to navigating the complexities and expenses associated with obtaining a business loan.

Who are the issuers of commercial paper?

The entities that commonly issue commercial paper are generally well-established, sizable companies with favorable credit standings. This encompassing category incorporates corporations, financial institutions, and assorted businesses. These issuers of commercial paper pursue funds to fulfill their immediate financial commitments, utilizing the proceeds from the paper’s sale for diverse objectives, such as bolstering working capital, funding inventory, and restructuring existing debt.

Who are the primary buyers of commercial paper?

Given the substantial minimum denominations, typically $100,000 or higher, institutional investors serve as the primary purchasers of commercial paper. As outlined by the Securities and Exchange Commission, this category encompasses "investment companies, retirement accounts, state and local governments, financial and non-financial firms."

Can I invest in commercial paper?

Investing in commercial paper typically requires a minimum investment of around $100,000. However, for smaller investors, a practical approach is to invest in entities that purchase commercial paper. Such options encompass money market funds, mutual funds, and even exchange-traded funds (ETFs). This indirect route allows smaller investors to access the commercial paper market without the significant initial investment.

Is commercial paper safe?

Commercial paper from reputable issuers with strong credit ratings is generally considered to be a safe investment. These issuers are often large, financially stable companies, which reduces the likelihood of default. However, like any investment, there are risks involved, such as liquidity risk, interest rate risk, and credit risk, particularly if the issuer’s financial health deteriorates. Additionally, the FDIC does not insure commercial paper, so investors should carefully assess the creditworthiness of the issuer before investing.

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BUS202: Principles of Finance

term paper on commercial bank

Overview of Short-Term Financing

In this section, you will learn the options companies have when they need to borrow for a short period. Imagine if you are a caterer who just got your first big corporate job. You need to buy ingredients and hire workers before the event. The company will pay you when you invoice them after the event. Where do you get the cash to allow you to accept the job before getting paid? What are your options for financing if your business is seasonal?

Commercial Paper

Commercial paper is a money-market security issued (sold) by large corporations to get money to meet short term debt obligations.

Learning Objectives

  • Analyze the commercial paper market

Key Takeaways

  • There are two methods of issuing paper. The issuer can market the securities directly to a buy and hold investor such as most money market funds. Alternatively, it can sell the paper to a dealer, who then sells the paper in the market.
  • Commercial paper is a lower cost alternative to a line of credit with a bank. Once a business becomes established, and builds a high credit rating, it is often cheaper to draw on a commercial paper than on a bank line of credit.
  • Asset -Backed Commercial Paper (ABCP) is a form of commercial paper that is collateralized by other financial assets.
  • money market : A market for trading short-term debt instruments, such as treasury bills, commercial paper, bankers' acceptances, and certificates of deposit.

In the global money market, commercial paper is an unsecured promissory note with a fixed maturity of one to 364 days. Commercial paper is a money-market security issued (sold) by large corporations to get money to meet short term debt obligations (for example, payroll), and is only backed by an issuing bank or a corporation's promise to pay the face amount on the maturity date specified on the note. Since it is not backed by collateral, only firms with excellent credit ratings from a recognized rating agency will be able to sell their commercial paper at a reasonable price. Commercial paper is usually sold at a discount from face value, and carries higher interest repayment rates than bonds. Typically, the longer the maturity on a note, the higher the interest rate the issuing institution must pay. Interest rates fluctuate with market conditions, but are typically lower than banks' rates.

term paper on commercial bank

US Commercial Paper Weekly 2001-2008 : United States Commercial Paper outstanding at end of each week from 3 January 2001 to 29 October 2008. Vertical scale shows debt in billions (thousands of millions) of dollars, horizontal scale shows years. Each blue marker indicates commercial paper outstanding at that date which matures after one week.

term paper on commercial bank

US Commercial Paper 2001-2007 : United States Commercial Paper outstanding at end of each year 2001 to 2007. Vertical scale shows debt in millions of dollars, horizontal scale shows years. All markers indicate commercial paper outstanding, maturing after December 31. Circles on blue line indicate Total commercial paper; triangles diamonds on pink line indicate SEC rule 2a-7 tier-1 commercial paper; triangles on blue line indicate Asset-backed commercial paper; squares on yellow line indicate SEC rule 2a-7 tier-2 commercial paper.

term paper on commercial bank

Weekly Commercial Paper Outstandings

Commercial paper is a lower cost alternative to a line of credit with a bank. Once a business becomes established and builds a high credit rating, it is often cheaper to draw on a commercial paper than on a bank line of credit. Nevertheless, many companies still maintain bank lines of credit as a backup. Banks often charge fees for the amount of the line of the credit that does not have a balance.

Advantages and Disadvantages

Advantages of commercial paper include lower borrowing costs; term flexibility; and more liquidity options for creditors due to its trade-ability.

Disadvantages of commercial paper include its limited eligibility; reduced credit limits with banks; and reduced reliability due to its strict oversight.

Asset-Backed Commercial Paper (ABCP)

Asset-Backed Commercial Paper (ABCP) is a form of commercial paper that is collateralized by other financial assets. ABCP is typically a short-term instrument that matures between one and 180 days from issuance and is typically issued by a bank or other financial institution. The firm wishing to finance its assets through the issuance of ABCP sells the assets to a Special Purpose Vehicle (SPV) or Structured Investment Vehicle (SIV), created by a financial services company. The SPV/SIV issues the ABCP to raise funds to purchase the assets. This creates a legal separation between the entity issuing and the institution financing its assets.

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Commercial Paper: What Is It and How It Works

Win Win Agreement.

Commercial paper is a type of short-term investment instrument issued by corporations in order to cover certain types of debt liabilities. Corporations issue commercial paper when they need to cover time-sensitive financial liabilities — payroll and seasonal inventory expenses are two common needs covered by commercial paper.

In exchange for funding these financial needs through the purchase of commercial paper, investors purchase offerings below the nominal value of the investment — the “par value” — and earn interest. The specific APR that investors earn will vary depending on the value of the investment and the length of time that the company issuing the commercial paper has to pay back what they borrowed.

The term for a commercial paper investment cannot exceed 270 days by law, with most investments being repaid in 30 days. The more time the company has to repay its loan, the more money the company will pay in interest.

Commercial paper investments have minimum denominations of $100,000. This high minimum investment amount means that retail investors rarely purchase whole commercial paper investments on their own. Other corporations and financial institutions are the primary buyers of commercial paper.

Only companies with high credit ratings may use commercial payments to cover short-term debts, as commercial paper investments represent unsecured debt.

Types of Commercial Paper

What is commercial paper exactly and how does it work? The answer might vary slightly depending on the investment instrument . There are four major types of commercial paper. The following four financial instruments are the most common commercial paper investments.

Commercial checks function in a similar way to personal checks . Commercial checks are issued as needed through banks according to instructions from the company issuing the commercial paper instrument.

Certificates of Deposit

Certificates of deposit are a type of bank receipt that confirms that a specific amount of money has been deposited to the bank by an investor. In exchange, the bank issuing the CD agrees to pay back the amount of money in the CD plus interest.

Promissory Notes

Promissory notes are legally binding agreements written from one party to another agreeing to pay a specific amount of money on a predetermined date in the future. Promissory notes are a type of basic contract , but they are one of the most common ways for companies to issue commercial papers.

A draft is an agreement written by a bank and signed by both a company borrowing money and an investor financing the loan. The bank draws up the draft, which lays out instructions between the payer — the company — and the payee — the investor . 

What Is an Example of Commercial Paper?

The following is an example of how commercial paper instruments are used on the financial market. 

The manager of a business is looking to create a new product line ahead of the upcoming holiday season . Though this business has an excellent credit rating and consistent income, it does not have the liquid cash needed to fund the new collection. 

The business needs $200,000 to produce their holiday collection. To entice investors, the business offers a commercial paper valued at $206,000 with a term of 30 days. If an investor loans the business the $200,000, it will return $206,000 when the term is up, thanks to an interest rate of 3%.

An investor who thinks this is a good deal will sign onto a commercial paper with the company, providing the business with $200,000 in financing. A month later, the company will return $206,000 to the investor — the balance of the original loan plus $6,000 in exchange for rush financing.

While commercial papers can provide a layer of diversification to any investor’s portfolio , the $100,000 minimum investment can make accessing these instruments can make them inaccessible to most retail investors .

Investors who are looking to add the stability of commercial paper to their portfolios may want to consider investigating CDs from their local bank or credit union . CDs from credit unions and banks have lower minimum investments when compared to other avenues of commercial paper investing, making them a more accessible portfolio addition.

Our in-house research team and on-site financial experts work together to create content that’s accurate, impartial, and up to date. We fact-check every single statistic, quote and fact using trusted primary resources to make sure the information we provide is correct. You can learn more about GOBankingRates’ processes and standards in our editorial policy .

  • Annuity.org. 2022. "What’s the Typical Minimum Balance for a Certificate of Deposit?"
  • Corporate Finance Institute. 2022. "Commercial Paper."
  • U.S. Securities and Exchange Commission. "Primer: Money Market Funds and the Commercial Paper Market."
  • The Council of UC Faculty Associations. "Commercial Paper."

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Home > Finance > Commercial Paper: Definition, Advantages, And Example

Commercial Paper: Definition, Advantages, And Example

Commercial Paper: Definition, Advantages, And Example

Published: October 29, 2023

Learn the definition, advantages, and example of commercial paper in finance. Explore how commercial paper can benefit businesses and enhance funding opportunities.

  • Definition starting with C

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BLOG POST TITLE: Commercial Paper: Definition, Advantages, and Example

Gaining a solid understanding of various financial instruments is crucial for anyone looking to navigate the complex world of finance. In this blog post, we will explore the concept of Commercial Paper, a widely used short-term debt instrument that plays a significant role in corporate financing. We’ll delve into the definition of commercial paper, highlight its advantages, and provide a real-life example to help you grasp its practical application.

Key Takeaways:

  • Commercial Paper is a short-term debt instrument issued by corporations to meet their immediate funding needs.
  • Some of the advantages of commercial paper include lower interest rates, versatility, and flexibility.

What is Commercial Paper?

Commercial Paper, often abbreviated as CP, is an unsecured promissory note issued by corporations with strong credit ratings. It serves as a means for companies to raise short-term funds to meet various financial obligations. Typically, the maturity period of commercial paper ranges from a few days to a maximum of 270 days.

Commercial paper acts as an IOU, where the issuing corporation promises to repay the principal amount to its holder upon maturity. As it is an unsecured instrument, there is no collateral attached to commercial paper, making it solely reliant on the issuer’s creditworthiness and reputation in the market.

Advantages of Commercial Paper

Now let’s explore some of the advantages associated with commercial paper:

  • Lower Interest Rates: Commercial paper often offers lower interest rates compared to traditional bank loans, making it an attractive financing option for corporations. This helps organizations to reduce their borrowing costs and allocate funds more efficiently.
  • Versatility: Commercial paper can be issued in various denominations, allowing companies to raise funds according to their specific requirements. This flexibility enables corporations to access capital quickly and conveniently.
  • Flexibility: The maturity period of commercial paper is relatively short, ranging from a few days to several months. This short-term nature allows companies to have greater financial flexibility, ensuring they can readily adapt to changing market conditions and meet their short-term funding needs as required.

Real-Life Example of Commercial Paper

Let’s consider a hypothetical example to illustrate the practical application of commercial paper:

XYZ Corporation, a highly creditworthy manufacturing company, needs immediate funds to purchase raw materials and meet its working capital requirements. Instead of opting for a traditional bank loan, XYZ Corporation decides to issue commercial paper. By doing so, they can quickly raise the required capital from investors seeking short-term investments.

The issued commercial paper has a maturity period of 90 days, during which XYZ Corporation will repay the principal amount to the investors, along with the agreed interest rate. This allows XYZ Corporation to meet its financial obligations promptly while taking advantage of the lower interest rates available through the issuance of commercial paper.

By utilizing commercial paper, XYZ Corporation gains financial flexibility, reduces borrowing costs, and effectively manages its short-term cash flow requirements.

Commercial paper serves as a valuable financial instrument for corporations to meet their immediate funding needs. By understanding the definition, advantages, and real-life examples of commercial paper, individuals can enhance their financial acumen and make informed decisions in the realm of corporate finance.

So why not consider exploring commercial paper as you navigate the world of finance, enabling you to leverage its advantages and incorporate it into your financial strategies.

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The National Commercial Bank Term Paper

Executive summary, introduction, nbc’s background, swot analysis, technical part on projects, conclusions.

The National Commercial Bank is considered to be the largest financial establishment in Islamic world. Its corporate and marketing strategies rely on geographical expansion, technological innovation, and services diversification. All these approaches will be discussed in the report with reliance on company’s history, mission and values, and strategic management. SWOT analysis will also be introduced to take a closer look on the NCB’s policies.

The National Commercial Bank, which is also called AlAhli Bank, refers to first Saudi Arabian banks. It is considered one of the pioneers in finance and Islamic banking, possessing the largest amount of assets. Its headquarters are located in Jeddah, with Head Office in Riyadh. The establishment provides a variety of banking services and belongs to one of the most recognized and reliable banking systems in the Arab world.

In order to define the main purposes, strategies, and mission of the organization, it is purposeful to consider the NCB’s history, background, strategies, SWOT analysis, job history, conceptual framework, technical part. The evaluation of these issues will highlight the major gaps and contributes to defining the main recommendations that should be introduced to fulfill the gap.

Nature of Company’s Activities

Emerged over half a century ago, the NCB has considered one of the Arab largest financial establishments, possessing more than 5,000 employees and over 2 million customers in Saudi Arabia (IMA, 2012). Nowadays, the bank controls a third of the country’s assets and has near 280 branches, becoming one of the largest retail systems in the Kingdom (IMA, 2012).

The banking sector in which the NCB operates is prosperous because of extensive influence of the Saudi central bank. With reliance on the basic banking activities, Saudi Arabian banks manage to sustain a competitive advantage, as well as remain highly resilient. In particular, the bank has a 100 % non-performing loan coverage and ample liquidity.

Due to the highly competitive environment, NBC’s profits were increased and reached over $ 1.25 billion, representing a 17 % increase for 2009 (IMA, 2012). In 2010, the NCB’s assets reached $ 75 billion whereas advances and loans grew by 12 % (IMA, 2012).

Due to the changes in management structure, the Alahli bank has enhanced its Islamic banking operations by converting retail operations into products complying with Sharia. The NCB is also considered as the main asset manager in Saudi Arabia, possessing over 30 % share of the fund market (IMA, 2012).

The focus on risk management has become the outcome of the advanced financial and commercial activities, as well as emergence of new segments. Thus, all banking transactions can be carried out electronically due to the availability of Alahli Online system.

Recently, The National Commercial Bank declared about the launch of mobile services for checking accounting and banking transactions through smart phones. Launching new services has become a part of its loyalty to utilize the modern banking technologies and applications (Arab News, 2012).

It fosters the financial transactions for customers and presents the bank orientation on innovation and development of information technologies, along with considering the security levels for electronic banking (Arab News, 2012).

Alahli Mobile will also provide such service as cash withdrawal from ATM points, with no need for inserting ATM card. In the context of digital and technological development, introducing self-banking services is a new focus on offering innovative solutions to their clients (Arab News, 2013).

Mobile banking seeks to enhance communication with clients by meeting their requirements. Such a strategic framework is premised on the NCB’s vision to deliver comprehensive and innovative banking solutions for its customers.

Aside from global policies, the company also works on widening individual customer’s services that are congruent with its expansion strategy. Hence, the services involve project finance, social loaning, travel checks, issuing of guarantee letters and letters of credits, bank deposits, and real estate loaning. The diversification of banking activities, therefore, can enhance its competitive potential and reputation.

Vision, Mission, and Organizational Chart

The mission and vision of the NCB lies in developing strategies that contribute to constant growth of the services quality. Diversifying the funding activities is another important mission that the banking institution pursues. Developing multiple layers in funding can provide a strong support for increasing the lending capabilities of the local banking institutions. Therefore, the diversity of funding sources is vital for the NCB progress.

The NBC has introduced a regional expansion strategy, gaining 64 % share in Turkey Finance Katilim Bank in 2008 (Worldfolio, 2013). Since then, the main Turkish bank has outperformed the forecasted results, regardless of the global economic recession (Worldfolio, 2013).

In short, the National Commercial Bank has experienced rapid growth over the recent years, gaining considerable profits, although its organizational mission is quite conservative in such areas as asset management and NPL coverage (Worldfolio, 2013). The organization chart of the NCB is split into three managerial branches – internal audit, compliance, and general manager.

There are also departments responsible for risk management, inspection, legal, and human resources. There is also a deputy general manager who is in charge of operations (IT, Procurement, Bank-office processing, and general affairs), sales (Individuals customers, external communications, region Tripoli-Sabha, and region Al Baida-Benghazi), and finance. The latter involves controlling and planning, accounting and reporting, and treasure.

The bank has fostered its expansion strategies through a three-tiered approach that refers to core growth, geographical expansion, and broadening the organization’s mission ( The National Commercial Bank , 2012). Due to the introduction of mobile services and other banking activities, Alahli Bank manages to ensure improved credit quality and integrated business structure.

Despite the integrated system, the NCB faces credit risk exposure that presupposes customers’ excess access to banking activities due to the extended services of the bank as a borrower ( The National Commercial Bank , 2012).

Opportunities

There are a number of opportunities for Alahli Bank to expand its influence. To begin with, the organization has potential prospects for growth in the Arabian Banking Sector. Such an opportunity is predetermined by the managers’ experience in operating at various levels ( The National Commercial Bank , 2012). Further, the NCB’s success is premised on the growing Global Finance Market and, as a result, the Islamic banking system has remarkable opportunities for development.

Although competition contributes to the expansion policies, the NCB still faces the challenge of competition, as well as the constraints of Basel III standards on capital requirements ( The National Commercial Bank , 2012).

Organizational Marketing Strategy

The SWOT analysis of Alahli banking system demonstrates that the organization has chosen global expansion strategy to enhance its position at the international market. Such an approach reflects the bank’s ongoing commitment to economic development, as well as to the analysis of international environment.

Understanding the needs of global consumers should become a priority for the NBC because it creates a new path for growth and development. Aside from territorial expansion, the company strives to extend the range of its services and products. Specifically, the bank focuses on transparency and corporate governance, leading to improved performance.

Organizational Competitive Strategy

The bank’s managerial staff focuses on two leading competitive strategies – overall growth and geographical expansion. The first one is aimed at continual improvement of services quality through introduction of well-tailored banking products by means of various distribution channels (Worldfolio, 2013).

The second one implies acquisitions and development of strategic partnerships in regional markets, developing and enhancing NCB’s distinct capabilities. Over years, the NCB experienced rapid growth by transforming its commercial ban to leading regional services group. Despite the emerged constraints to access capital market, the banking system is considered extremely competitive.

Continuous development of professional skills and abilities can attract investors and provide a highly competitive environment (Wordlfolio, 2013). Thus, the main task of Alahli Bank consists in developing its services and increasing the quality of banking activities.

Job History

The NCB takes advantage of strong capital adequacy that contributes to developing a strong commercial policy in a leading financial services group. In 1999, changes occurred to the Bank’s ownership, and a New Board of Directors has been shaped. Thus, Mr. Abdulla Salem Bahamdan became the Chairman of the Directors Board (IMA, 2012). In 2005, Mr. Abdulkereem Abu Alnasr was assigned as General Manager and the NCB’s first CEO in 2006 (IMA, 2012).

Conceptual Framework (Literature Review)

With regard to the SWOT analysis of weaknesses and threats, Alahli bank should pay closer attention to competition and credit risk exposure. These challenges can become even more serious as soon as the global and geographical expansion and product diversification are concerned. Before introducing such competition strategy in the context of corporate growth, the focus should be on the related experience in this field.

The overview of modern competitive strategies in banking defines the main challenges and problems of domestic banks deregulation as a result of globalization policy. In particular, the studies by De Carvalho (2000) assert that most of the banks that plan transition to an international level lose their protection mechanisms and face rigid competition on the part of other foreign banks.

Therefore, because the NCB explores new markets, segments, and customers, it can undergo a number of risks and problems. In addition, the introduction of digital devices and innovation technology is another viable solution for fostering integration of domestic banks to the global market. In this respect, Ozbay et al. (2011) note that implementing competitive strategies in banking can boost economic recovery process and provide an innovative vision of the banking system.

Methodological Problems

While conducting an in-depth evaluation of the banking structure of the NCB, specific emphasis has been placed on the marketing challenges of the bank’s penetration to the global environment due to the emergence of international standards and regulations. Therefore, the discussion of growth strategies implemented in Saudi region provides a greater outlook on the roots and consequences of the introduced changes.

While analyzing the Alahli Bank, a number of interesting strategies have been highlighted. To begin with, the organization has managed to define its strategic course in terms of innovation and technological progress to successfully become the largest bank in the Arab world. Second, the bank has focused on development of new products and services with reliance on the customer’s needs and requirements.

Limitations

The basic limitation to the project analysis lies in absence of information about human resources strategy that builds the foundation of successful globalization course. Second, the project proves that the competition constraints are considered extremely influential because they impose certain obligations on the NCB’s managers in terms of policy and organization.

Suggested Solutions

In order to reduce the risk of competition, as well as enhance the protection mechanisms, the company should restructure its managerial organization. In particular, there should be more managerial positions in different locations to take greater control of the marketing situation.

Evaluation of the Internship Experience

On the one hand, the bank’s plan to expand new regions in the Arab world can create a fresh insight into marketing and banking activities. Once the NCB starts penetration, it can encounter competitive market hampering the bank’s economic growth. As a result of such policies, there is strong tendency in privatization.

Besides, specific attention should be given to the analysis of external economic environment, particularly to the economic financial at the global market. Thus, lack of information about global tendencies can lessen the opportunity of the Arab banking system to adapt to new contingencies. In fact, the experience in working at this bank has enhanced the vision of future development of the banking system at the international level.

Summary of findings and recommendations

With regard to above-presented findings, it should be stressed that the NCB has chosen an aggressive policy oriented on total geographic expansion and diversification of products and services. Such a reform is accompanied by innovation and technological progress, including the creation of online banking systems. Despite the advantage of the proposed strategy, there are a number of barriers to its accomplishment.

In particular, insufficient exploration of the external environment can pose threats to bank’s further integration due to the lack of protection mechanisms, as well as inability of the Alahli’s management to oppose competition. In addition, the organization’s marketing strategy is also consistent with its mission and values.

In order to prevent further risk imposed on the banking activities, the NCB should focus on reconstruction of internal processes and departments to be ready to face external setting.

The National Commercial Bank is considered one of the largest banks in the Arabian market and it continues expanding its influence in Islamic world due to the greatest assets it possesses. Its marketing and competitive strategy focuses on geographic expansion and product diversification that is aimed at capturing greater client base.

In order to meet the global competition, the company explores its innovation capabilities. For instance, online mobile service is a recent introduction to the bank’s range of services, by means of which the customers can take greater control of its account. Despite a consistent approach to managing banking system, there are a number of challenges that need to be addressed. This is of particular concern to external competition and lack of devices for its management.

Arab News (2012). NCB Launches Alahli Mobile Service . Web.

De Carvalho, F. J. (2000). New Competitive Strategies of Foreign Banks in Large Emerging Economies: The Case of Brazil. National Research Council , 312, 1-32. Web.

IMA (2012). The National Commercial Bank. Doing Business in Saudi Arabia. Web.

Ozbay, R., Dinçer, H., & Hacioğlu, Ü. (2011). Internet based Innovation Strategy for the Banks in the Era of 2008 Global Financial Crisis. International Journal of Business & Social Science, 2 (22), 85-91.

The National Commercial Bank – Strategic SWOT Analysis Review. (2012). Bharat Book Bureau. Global Data. Web.

Worldfolio. (2013). NCB Banking on Growth . Web.

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IvyPanda. (2024, January 8). The National Commercial Bank. https://ivypanda.com/essays/the-national-commercial-bank/

"The National Commercial Bank." IvyPanda , 8 Jan. 2024, ivypanda.com/essays/the-national-commercial-bank/.

IvyPanda . (2024) 'The National Commercial Bank'. 8 January.

IvyPanda . 2024. "The National Commercial Bank." January 8, 2024. https://ivypanda.com/essays/the-national-commercial-bank/.

1. IvyPanda . "The National Commercial Bank." January 8, 2024. https://ivypanda.com/essays/the-national-commercial-bank/.

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  • Commercial Paper

The introduction of Commercial Paper in India was considered the beginning of financial reforms in India. Post liberalization the Indian government introduced many short-term instruments to tackle the various financial needs and situations of financial crisis one of which was Commercial papers. Let us take a look.

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Commercial paper definition.

Commercial paper  is a money-market security issued (sold) in the commercial paper market by large corporations to obtain funds to meet short-term debt obligations (for example, payroll) and is backed only by an issuing bank or company promise to pay the face amount on the maturity date specified on the note.

Imagine this scenario to get an idea of what a commercial paper is; You had lunch in a restaurant and the bill is ₹900, you give ₹2000 note but the cashier does not have a chance to give back. He gives you a paper and writes on it, “We are to give Mr. You ₹1100 in cash or either You can have a meal worth ₹1100 from one of our branches within the one-month duration.” He signs it and issues a stamp of the restaurant on it. Should you accept it? Definitely.

This was just an example to give you an idea of what commercial papers are. Commercial papers are usually issued at a high value. It is unsecured money market instrument issued in the form of a promissory note and transferable between Primary Dealers (PDs) and the All-India Financial Institutions (FIs).

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Individuals, banking companies, other corporate bodies (registered or incorporated in India) and unincorporated bodies, Non-Resident Indians (NRIs) and Foreign Institutional Investors (FIIs) etc. can invest in Commercial Papers. However, investment by FIIs would be within the limits set for them by Securities and Exchange Board of India (SEBI) from time-to-time.

Commercial Papers emerged as a source of short-term finance in India in the early nineties. As we discussed, Primary Dealers (PDs) and the All-India Financial Institutions (FIs) issue commercial papers which is an unsecured promissory note to raise funds for a short period of 90 days to 364 days.

The money raised by the commercial paper is generally very large. It is generally issued by one firm to another business firms, insurance companies, pension funds and banks . Its regulation comes under the purview of the Reserve Bank of India (RBI). As the RBI does not want to risk the funds, only the firms having good credit rating can issue the commercial paper.

Commercial Paper

source: kt5

Merits of Commercial Paper

  • Technically, it provides more funds compared to other sources. The cost of commercial paper to the issuing firm is lower than the cost of commercial bank loans .
  • It is in freely transferable nature, therefore it has high liquidity also a wide range of maturity provide more flexibility.
  • A commercial paper is highly secure and does not contain any restrictive condition.
  • Companies can save their extra funds on commercial paper and also earn some good return on the same.
  • Commercial papers produce a continuing source of funds . This is because their maturity can be tailored to suit the needs of issuing firm. Again, commercial paper that matures can be repaid by selling the new one.

Limitations of Commercial Paper

  • Only financially secure and highly rated organizations can raise money through commercial papers. New and moderately rated organizations are not in a position to raise funds by this method.
  • The amount of money that we can raise through commercial paper is limited to the deductible liquidity available with the suppliers of funds at a particular time.
  • Commercial paper is an odd method of financing . As such if a firm is not in a position to redeem its paper due to financial difficulties, extending the duration of commercial paper is not possible.

Solved Question for You

Question: The maturity period of commercial papers usually ranges from (a) 20 to 40 days (b) 60 to 90 days (c) 120 to 365 days (d) 90 to 364 days

Answer: (d)90 to 364 days.

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Commercial Paper

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What is a Commercial Paper?

How does commercial paper work, features of commercial paper, types of commercial paper, benefits of commercial papers, risks of commercial papers, frequently asked questions.

Commercial paper (CP) is an unsecured money market instrument issued primarily by financial institutions and highly rated corporate borrowers and is issued at a discount in denominations of Rs. 5 lakh or multiples thereof.

Institutional investors, such as mutual funds and insurance companies, are buyers of commercial paper. This is a common funding mechanism large businesses use for short-term debt commitments such as current liabilities, operations, monthly payments, and taxes.

The main purpose the paper serves is to help companies meet their short-term liabilities. In addition to this, it attracts fixed interest rates and commercial papers that are issued under the directive guidelines issued by the RBI (Reserve Bank of India).

Issuers prefer commercial paper to minimise the expense and time involved in applying for business loans, attracting heavy interest rates.   Primary dealers and all-India financial institutions issue commercial paper. Corporate borrowers and satellite dealers who are authorized to raise debt through money market instruments within limits set by the RBI can also issue CPs. When a corporation repays commercial paper, it also pays interest at the same time as principal repayment.

The proposed amount shall be raised within a duration of two weeks from the commencement date of the issue and can be issued on a single date or on different dates in parts.

Following are the reasons why CP is a preferred debt instrument, among others:

  • Convenient and inexpensive : It is less expensive as compared to a bank loan, and convenient to issue. Thus, businesses prefer to take up commercial paper to meet their short-term liabilities.
  • Higher Interest Rates : Besides any major debt instrument, they offer higher interest rates with fixed returns. This attracts investors to CP, more than any other short-term debt instrument out there in the market.
  • The borrower account of the organisation is classified as a Standard Asset by banking or financial institutions
  • The tangible net worth of the company is 4 crore or more as per the latest audited balance sheet
  • The company has been given a working capital limit by banking or financial institutions
  • Free from specific transactions : CP is not tied to any specific transactions. In this way, CPs differ from other short-term money market instruments.

Primarily, there are four types of Commercial paper in the market:

  • Promissory Note : It is a note of promise to repay the money back, along with interest. The maker of a promissory note promises the bearer of the note of payment to the bearer of the note. The payee can be a person holding the promissory note, or a recipient entitled to receive payment.
  • Draft : A draft involves three-parties, a bank(as the drawer), a payer(as the drawee), and the payee(who will be given the money). The drawer bank gives the payment order to the drawee to pay the amount due to the payee. 
  • Drafts (or bills of exchange) : It help to secure payment in shipping transactions. The issuer of the commercial paper is given instructions by the bank to pay the payee a certain sum of money at a particular time. Buyers who want to ensure the accuracy of goods before payment request drafts, while sellers may not want to rely solely on the buyer’s promise and want payment before delivery. Therefore, sellers prefer such notes.
  • Cheque : Cheques are bank-drawn commercial paper. The holder or a specified person can demand payment. The bank needs to pay the individual or business for the money in their bank account. It promises to pay the cheques from accounts with enough money.
  • Certificate of Deposit : A certificate of deposit (CD) is a written confirmation by a bank that it will accept a deposit of a certain amount of money from a customer for a certain period. Following maturity, the bank has committed to repaying the principal plus interest. The CD maker and drawee are the banks, while the CD payee is the person making the deposit.

For Issuers :

  • Simplicity and Flexibility in financing : The Reserve Bank of India (RBI) will not have to register if it matures in less than one year. This makes it an economical and straightforward method of financing.
  • Lower Interest Rates : It offers issuers the advantage of lower interest rates. In addition to this, it is unsecured and thus does not create any liens on the assets of the company.
  • Transparency and ease of raising funds : It does not contain any restrictions and is highly secure. Moreover, this is the best way for the company to take advantage of short-term interest fluctuations in the market.
  • Easier to get as compared to other debt instruments : Dealing with commercial paper is easier in comparison to the amount of work, time and money needed to acquire a loan.

For Investors:

  • Securitization of funds : They offer investors a low risk of default, hence increasing their credibility in the market.
  • Diversification : They provide an effective way for investors to diversify their portfolios. 
  • Credit Rating : Only large companies with high credit ratings can sell commercial paper at a reasonable rate due to its promissory nature. Only “blue-chip” companies can issue debt instruments without collateral. If a smaller company tried to issue commercial paper, investors will not buy the securities. The credit risk , or possibility of a borrower defaulting, will be too high for smaller organisations, and there will be no market for this issue.
  • Liquidity : Liquidity is another risk, though it is lesser than with longer-term debt. It is the ability to convert a security into cash at its fair value . Liquidity shows how easily a security can be bought or sold. It is less of a concern than credit (default) risk because the debt matures quickly, leaving little room for secondary market trading. Despite being one of the most used money market debt instruments, secondary markets are small.
  • Risk o f repayment to investors : There is no guarantee that investors will receive their money back, and it might question the instrument’s credibility.

It is generally issued by large corporations, primary dealers, and All-India Financial Institutions (FIs). Ideally, they issue commercial paper to meet working capital requirements or short-term obligations.

The following criteria for issuing a commercial paper: The working capital limit has to be sanctioned by banks or all-India financial institutions. The tangible net worth of the firm issuing a commercial paper is not less than Rs. 4 crores. Minimum credit rating of P-2 from CRISIL or equivalent rating from ICRA/CARE.

Commercial paper maturities extend from 1 to 364 days, whereas bonds mature in one to 30 years. Commercial paper has no coupon payments. There is only a single final payment due when the term ends. On the other hand, bonds have interest payments that occur semi-annually throughout the loan term.

The maturity period of Commercial paper ranges from 1-364 days.

No, the issue of commercial papers happens only through private placements only.

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Capital One to Acquire Discover, Creating a Consumer Lending Colossus

The all-stock deal, which is valued at $35.3 billion, will combine two of the largest credit card companies in the United States.

A Capital One bank machine.

By Lauren Hirsch and Emma Goldberg

Capital One announced on Monday that it would acquire Discover Financial Services in an all-stock transaction valued at $35.3 billion, a deal that would merge two of the largest credit card companies in the United States.

“A space that is already dominated by a relatively small number of megaplayers is about to get a little smaller,” said Matt Schulz, chief credit analyst at LendingTree.

Capital One, with $479 billion in assets, is one of the nation’s largest banks, and it issues credit cards on networks run by Visa and Mastercard. Acquiring Discover will give it access to a credit card network of 305 million cardholders, adding to its base of more than 100 million customers. The country’s four major networks are American Express, Mastercard, Visa and Discover, which has far fewer cardholders than its competitors.

But consumer advocates pushed back on the possible deal, saying it posed antitrust concerns. “It is very difficult to imagine how federal regulators could allow Capital One to buy Discover given the requirement that mergers benefit the public as well as insiders,” Jesse Van Tol, the chief executive of the National Community Reinvestment Coalition, said in a statement.

The acquisition by Capital One will be one of the first tests of regulatory scrutiny on bank deals since the Office of the Comptroller of the Currency said last month that it intended to slow down approvals for mergers and acquisitions .

“It’s hard to know which way it would go, but there will certainly be a lot of attention paid to this deal because of the money and magnitude of the companies involved,” said Mr. Schulz.

Complicating the landscape is the fact that other deals in the financial industry have come under renewed scrutiny, said David Schiff, a senior partner at West Monroe, a digital services consulting firm. These include New York Community Bank’s acquisition of billions of assets from Signature Bank during the regional banking crisis last year. New York Community Bank recently reported a sizable loss for its most recent quarter, and said it would set aside more capital to act as a buffer against future problems. Much of its troubles stem from the weakening commercial real estate market, but Mr. Schiff said that politicians could point to the deal as an example of one that regulators were too quick to approve.

As part of the acquisition, Capital One will pay Discover shareholders a 26 percent premium based on the company’s closing stock price on Friday. At the close of the deal, which is subject to regulatory approval and is expected in late 2024 or early 2025, Capital One shareholders will own approximately 60 percent of the combined company and Discover shareholders will own the rest.

Discover was valued at about $28 billion when the market closed on Friday, and Capital One was valued at about $52 billion.

The deal is part of Capital One’s strategy to build a global payments network, helping it work directly with merchants and small businesses. And it gives Discover greater scale to compete with other credit card companies. Capital One said the agreement would generate $2.7 billion in pretax savings.

“Our acquisition of Discover is a singular opportunity to bring together two very successful companies with complementary capabilities and franchises, and to build a payments network that can compete with the largest payments networks and payments companies,” Richard Fairbank, founder, chairman and chief executive of Capital One, said in the statement.

In June, Capital One acquired Velocity Black, a digital concierge company that brings together travel, entertainment, shopping and dining offerings for consumers.

Discover is emerging from a period of turbulence. The company’s former chief executive, Roger Hochschild, stepped down in August amid a regulatory review of incorrectly classified credit accounts. In October, the company said it was taking steps to improve its corporate governance, and in December, it announced its new chief executive, Michael G. Rhodes. The company’s profit in the fourth quarter of 2023 fell 62 percent from the same period the year before.

The once-giant retailer Sears introduced the Discover card in 1985. Discover later became a part of Morgan Stanley before the investment bank spun it out through an initial public offering of stock in 2007.

Given Discover’s recent challenges, the question is whether “regulators view this as a white knight coming in to help fix a troubled player in the market or whether they view this as a limitation of competition — and therefore something to avoid,” Mr. Schiff said.

Rob Copeland contributed reporting.

Lauren Hirsch joined The Times from CNBC in 2020, covering deals and the biggest stories on Wall Street. More about Lauren Hirsch

Emma Goldberg is a business reporter covering workplace culture and the ways work is evolving in a time of social and technological change. More about Emma Goldberg

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  2. An Introduction to Commercial Paper

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  3. Commercial Paper (CP): What It Is & How It Works

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  5. How to Invest in Commercial Paper

    Investing in Commercial Paper. Commercial paper is a fixed-income security used by large corporations or banks to meet a short-term financial need. When you invest in commercial paper, you are paid a fixed interest rate plus the note's principal balance upon its maturity. Since these are short-term securities, they reach maturity in 270 days ...

  6. Commercial Paper

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  7. Commercial Paper

    One variation of commercial paper is asset backed commercial paper (ABCP), which is also a short-term issuance but is backed by collateral. The issuers of ABCP are usually non-bank financial institutions (e.g. conduits) that provide collateral in the form of financial assets such as trade receivables and related payments expected to be received ...

  8. What is Commercial Paper?

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  10. What Is Commercial Paper?

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  11. Commercial Paper Definition & Example

    Commercial paper is an unsecured and discounted promissory note issued to finance the short-term credit needs of large institutional buyers. Thursday, February 22, 2024. Our Top Picks Best Money-Making Tips. ... These large institutional investors often prefer the cost savings inherent in using commercial paper instead of traditional bank loans.

  12. Commercial Paper: Understanding its Role in Short-Term Financing

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  13. What is Commercial Paper? Definition and Key Characteristics

    Commercial paper is a form of unsecured short-term debt. Commercial paper is a financial instrument that helps corporations with short-term funding and liquidity needs, ... Typically cheaper than bank loans, companies like Apple have leveraged commercial paper to finance their short-term capital needs at lower costs.

  14. Commercial Paper: A Comprehensive Guide to Short-Term Financing

    Commercial paper refers to unsecured, brief-term debt documents that corporations release. They are commonly utilized to fund immediate obligations like employee salaries, outstanding accounts, and available goods. Generally, these papers are offered at a price lower than their stated value, mirroring current market interest rates.

  15. Overview of Short-Term Financing: Commercial Paper

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  17. A Study on the Performance of Commercial Banks in Ethiopia

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  22. What is a Commercial Paper and How it Works?

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