"It fills a timing gap, a short-term working capital need," explains Paul Falvey, executive vice president of commercial lending at First International Bank of Hartford, Conn.

For example, a clothing manufacturer could draw on its credit line to buy material in the winter to produce dresses for the summer season. Once the manufacturer is paid by its customers (boutiques, department stores, other clothing retailers) it then pays off its credit line.

Common credit line users
Most credit lines are for short-term financing of up to a year, but they can be extended from year to year. They are most commonly used by:

• Manufacturers that need money to buy the raw materials to make a final product;
• Seasonal companies that need money to get through the slow times; or
• Import/export firms that must await payment (or goods) for a lengthy period.

That said, credit lines can be used by any type company for a short-term working capital need. For example, a service company might need a credit line to meet payroll while awaiting payment for services rendered.

Credit lines work much like credit cards for consumers, but dispense with the plastic. Companies "charge" their credit lines when they don't have cash handy, and then pay off the balance when they can. Each month they are charged on the maximum balance for the credit line. For example, if a company has used $25,000 of its $50,000 credit line during May and then pays it down to $18,000 by May 31, the interest charged would be on the $25,000.

Credit lines may be secured by collateral, such as accounts receivable, or inventory. Start-ups need not apply -- they usually are restricted to established companies.

"Typically, these will come into play after an entrepreneur has worked his way through family, friends, venture capital and angels," says Don Dailey, partner in charge of middle market advisory services for the Midwest region of PriceWaterhouseCoopers. "A company must be viable, have revenues and post a profit in order for it to be eligible for a credit line."

Use for operations, not fixed assets
While there are exceptions, credit lines are good for ongoing operational expenses, rather than fixed-asset purchases. When buying manufacturing equipment, a small company would more likely finance the purchase through a regular loan of between five and 15 years rather than through a revolving credit line.

Credit lines are often referred to as "revolving" because the amount borrowed varies. It goes up. It goes down. "I call them 'evergreen' because they roll over for a period of time," says Dailey.

The size of a credit line varies with a company's needs. Banks and finance companies that offer credit lines say they offer lines that range from $50,000 to several million dollars.

In terms of cost, credit lines tend to be slightly less expensive than a term loan, but exceptions exist, says First International's Falvey. As a starting point, a financial institution will charge anywhere from 1 to 3 percentage points above the prime rate, which this month stands at 9 percent. The final cost will be based the bank's assessment of the risk, says Mark Papoccia, vice president at the Harris Bank, a Small Business Administration preferred lender based in Chicago.

Types of credit lines
Credit lines can take on various guises and purposes, says Anthony Ruebner, vice president of Financial Institution Partnership for LiveCapital.com, an online source for financing, including credit lines. The different types of credit lines include:

• Credit cards -- While we said earlier that credit lines are like credit cards without the plastic, in fact, credit cards are a form of credit lines. These can finance anything from a $30 business dinner to a $10,000 trade show expense.
• General "revolving" credit line -- This is a true credit line that's usually tapped by placing a call to your banker, who deposits money into your company's checking account. They're usually sized from $10,000 to $1 million.
• Trade credit line -- A trade line is supplier financing. The supplier may give you 90 to 120 days to pay. You pay for the goods plus an interest charge.
• Asset-secured line of credit -- Most financial institutions will only grant a credit line if a small business can secure it with an asset -- generally inventory or accounts receivable -- since these are the most fluid assets it owns.
• Nonsecured line of credit -- Much less common than collaterized credit lines, nonsecured means that your financing institution waives a requirement to secure the credit line with assets.
• A credit line that converts into a bank loan -- Many banks will convert a credit line into a term loan, Falvey says. "If we see that a customer has a $500,000 line of credit at the end of the year and it's never dipped below $300,000, we might recommend converting it into a five- or seven-year loan and adjust the line of credit to $200,000," he says.

New twists
In addition, many financial service firms, banks and brokerage houses have added some interesting twists to traditional credit lines. For example American Express offers its SBS Line of Credit. A small business accesses its credit line by writing a check. The SBS Line of Credit goes up to $50,000 and Amex charges an annual percentage rate of prime plus 3.9 percent with an annual fee of $95.

Harris Bank offers overdraft protection on a commercial checking account. While not a credit line per se since it's linked to a checking account, it functions much like a credit line. "If a small business runs into a cash shortfall and overdraws its checking account, money is put directly into their checking account to cover the difference," says Harris Bank's Papoccia.

Some financial institutions are in the process of developing "purchasing cards." They will work much like a credit line, but to charge against the credit line a company need only whip out its purchasing card much like a consumer would use a credit card, says Dan Meder, vice president of credit solutions services at Dun & Bradstreet.

Landing your line
Companies interested in setting up a credit line should approach their regular commercial banker since this financial institution knows them and their circumstances. Comparison shopping, though, is a good idea, says Dailey.

In fact, one easy way to comparison shop is to visit a Web site such as LiveCapital.com, where you can receive quotes on loans or credit lines from 33 of its participating financial institutions. It's just a matter of completing an electronic form and awaiting a response.