To the issuer, the benefit of commercial paper as a borrowing medium lies in the wide and steady market, which the banks of the country afford, the lesser rates of interest obtainable in money centres and the cash dis counts explained below.
The great advantage of single-name paper is due, as above stated, to the fact that the pro ceeds are applied to the paytnent of bills, which when met within the cash discount penod are allowed a deduction. A simple illustration will show the profitableness of such a transaction.
Let us suppose a merchant owes $1,000 for an invoice of goods; the terms are <(2 per cent, 10 days,* which means that if the bill is paid within 10 days of the date of the invoice he can settle for $980. He has no funds, but good credit He, therefore, makes a promissory note, due let us say in three months, for $1,000, and through the process subsequently described sells the instrument to a bard( or banker at the prevailing rate of discount, Which would not ordinarily be as high as 6 per cent; but assum ing the latter rate, the discount would be $15, plus the broker's commission, which would still allow a fair margin of profit for him. He has in addition the three months' time in which to turn the stock into money to meet his note. Ordinarily the (best names° as they are called, meaning the firms in the highest credit stand ing, are able to borrow at from 3 to 4 per cent making the single-name paper a highly profitable method of borrowing.
The g2 per cent 10 days° discount is equiva lent to 72 per cent a year. The merchant by settling the bill within the discount period has saved $20. If he were to make money as fast as this process indicates within that period of time, he would have to employ the fund at the rate of 72 per cent a year; for 2 per cent in 10 days is equivalent to 6 per cent a month.
Single and Two-Name Paper.— Single name paper is an outgrowth of the Civil War and the Greenback disturbances. Before the war merchants made infrequent trips to the trading centres and stocked up for months ahead, giving notes for their bills with long maturity. Owing to the uncertainty of the amount that would be received for the bill at maturity, due to a depreciating currency, a cus tom soon arose of allowing the buyer a cash concession for prompt payment. But this
necessitated borrowing facilities. The home banIcs being unable to loan in such large amounts, the merchant conceived the idea of making out a statement of his affairs, and sub mitting to bankers in the large cities, with his notes in large and uniform amounts, and pay able at a ttme when he would be in funds. From the funds so secured he was able to take advantage of these concessions and therefore buy at a reduced price. The plan worked so well that intermediaries sprang up as a natural sequence, to find buyers for such paper and borrowers for banks having funds to invest.
The sole advantage of two-name paper lies in the fact that it carries the strength of an additional name by endorsement, and is prima facie evidence of a business transaction. This form of paper is not a factor in American business methods, it being the common custom to buy and sell on open book credit, settling the obligations in cash as above stated. In a few lines, such as lumber, musical instruments, agricultural machinery, etc., notes are given in settlement; but this form of paper is greatly in the minority. The cash discount system is so widely adopted and so largely used that it may be said to be the prevailing custom in this country and is the reason for the prevalence of single-name paper.
Selling and Both single and two name paper is sold through the medium of the commercial paper broker, who acts as the go between between the borrowei and the banker. The broker maintains a well-organized credit department, which investigates each concern for whom the broker sells, obtains full infor mation as to its affairs and classifies and ar ranges same for submission to the lender. ' The commercial paper broker acts as selling agent only and never guarantees the paper, except as to its authenticity. He is usually a man of high standing, with strong banking con nections, a large and valuable clientele, a name to protect, and therefore uses due care in put ting out paper so that only the risks that are in his judgment strong are offered.