Commercial Banking

Providing Services to Businesses

A commercial bank is a bank, or a division of a bank, that looks after the needs of businesses.

Commercial banks offer many of the same services to businesses as those offered to ordinary people by retail banks. They take care of money deposited in them. They provide debit cards, cheque books, cashier services and statements of financial transactions. They also provide services that help companies to trade overseas.

However, one of the most important functions of commercial banks is the provision of a variety of loans to companies to allow businesses to expand and become more profitable.


Main points about Commercial Banking:

Commercial banking (also known as wholesale banking) looks after the needs of businesses.
Commercial banks offer many of the same services offered in retail banking, such as current (checking) accounts and other deposit or special interest accounts, with the facility to transfer money between accounts.
They provide facilities to access money deposited, such as cheque books, debit cards and cashier services.
They allow the payment of regular bills through standing orders or direct debits. They also provide Internet banking so that companies can access up-to-date information about the state of their accounts. (See the section on Retail Banking.)
However, commercial banking divisions usually have specially trained people who understand the needs of businesses, so that they can offer the right financial advice to each company.
Some commercial bankers will be specially trained to work with small businesses, whilst others are trained to work with large corporations because such companies can have very different needs.
One of the most important functions of commercial banking is to provide a variety of debt finance (loans) to companies, to allow businesses to expand and become more profitable.
Loan facilities include overdraft facilities and special accounts from which businesses can withdraw money as a loan, up to an agreed limit. The company will only be charged interest on the money that they actually withdraw, although most accounts do have an annual maintenance charge.
The facilities can also include very large loans that can be paid back over anything from six months to 20 years. For larger loans the bank will want them secured against the company assets.
Commercial bankers will help with payments to companies operating in other countries and will arrange special documents that authorise payments for goods (usually expensive goods) called ‘letters of credit’.
A commercial banker may offer to set up a lockbox service for a company. This is a special PO box where money owed to the company by its customers can be sent. The bank has access to this PO box and collects and processes the money for the company.
As large companies have thousands of transactions passing through their accounts each day, commercial banking has to be able to offer the capacity to deal with such a huge volume.
Commercial bankers often offer retail banking services as well - in fact most large high street banks offer both retail and commercial services.

Loaning to Businesses

Loaning to businesses is the bedrock of commercial banking. Although banks do not have to be in the City to lend, because huge commercial deals are going on all the time, lending is a very important part of the international financial markets.

Loans can vary from a few thousand pounds to hundreds of thousands. Very large loans are usually syndicate loans. This means that a loan is made to the borrower by more than one lender. They are coordinated by an arranger bank that will disperse cash flows amongst the other syndicate members and carry out administrative tasks.

The borrower could be a corporation, public sector organisation looking to fund a large project, or a company looking to buy another.

Syndicate loans spread the risk of a borrower defaulting across multiple lenders, such as banks or institutional investors, so it would not cripple a single lender.

Whatever the size of the loan, the basis of commercial banking is that lending is matched by funding. Banks don’t just lend out their deposits, they also borrow money from the interbank market.

When a bank knows it is going to lend an amount of money, it gets those funds from the interbank market, borrowing the amount needed for a set period. This is usually for three months because, if banks were to lend to each other for longer periods, it would tie up their money.

This means banks lend over a long period to a customer business but borrow over a short period. Banks fund themselves though each loan period by a matching interbank deposit (matched funding).

Therefore, if anything goes wrong with the loan and it gets paid too late or too early, the bank has a problem. If a loan gets paid too early the bank is sitting on funds it has borrowed and on which it is paying interest in the interbank market. If a loan is paid too late, then a bank won't be able to repay its interbank loan.

Consequently, there are clauses in bank loan agreements that are there to make sure this does not happen. They detail the penalties for both early and late payment.