Commercial Papers

Commercial Paper Definition

Commercial Paper is defined as a money market instrument that is used for obtaining short-term funding and is usually in the form of a promissory notePromissory NoteA promissory note is a negotiable instrument that represents the debtor's or the writer's (the maker's) written consent to pay a promised sum to the creditor (the payee) on a specified more issued by investment-grade banks and corporations. Most commercial papers are easily rolled over by paying for old issuance from the proceed of new issuances. Hence it becomes a continuous source of funding.

Commercial Papers

Types of Commercial Paper (Uniform Commercial Code – UCC)

As per the Uniform Commercial Code (UCC), commercial papers are of four kinds:

  1. Draft – A draft is a written instruction by a person to another to pay the specified amount to a third party. There are 3 parties in a draft. The person who gives the instructions is called “drawer.” The person who is instructed is called “drawee.” The person who has to receive the payment is called the “payee.”
  2. Check – This is a special form of the draft where the drawee is a bank. There are certain special rules which apply to a check. Hence this is considered to be a different instrument.
  3. Note – In this instrument, a promise is made by one person to pay another a certain sum of money to another. There are 2 parties in a note. The person who makes the promise and writes the instrument is called “drawer” or “maker.” The person to whom the promise is made and to whom payment is to be made is called “drawee” or “payee.” It is also known as “promissory note.” In most instances, a commercial paper is in the form promissory note.
  4. Certificates of Deposit (CD) – A CD is an instrument wherein the bank acknowledges the receipt of deposit. Further, it also carries details about maturity value, interest rate, and maturity date. It is issued by the bank to the depositor. It is a special form of the promissory note. There are certain special rules which apply to a CD. Hence this is considered to be a different instrument.

Types of Commercial Papers (On The Basis of Security)

On the basis of security, there are two types of commercial papers:

  1. Unsecured Commercial Papers – These are also known as traditional commercial papers. Most of these papers are issued without any collateral, and hence, they are unsecured. The rating of the issue depends upon the asset quality and all other aspects relating to that organization. Rating is done in the same manner in which it is done for the bonds. These are not covered by the deposit insurance, e.g., Federal Deposit Insurance Corporation (FDIC) insurance in the U.S., and hence, investors obtain insurance from the market separately as a backup.
  2. Secured Commercial Papers – These are also known as Asset-backed commercial papers (ABCP). These are collateralized by other financial assets. These are normally issued by creating a Structured Investment vehicle that is set up by the sponsoring organization by transferring certain financial assetsFinancial AssetsFinancial assets are investment assets whose value derives from a contractual claim on what they represent. These are liquid assets because the economic resources or ownership can be converted into a valuable asset such as more. These papers are issued to keep off the instruments from the financial statementFinancial StatementFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all more of the sponsor organization. Further, the rating agencies rate the issue on the basis of the assets kept in the Structured Investment Vehicle, ignoring the asset quality of the sponsor. During the financial crisisFinancial CrisisThe term "financial crisis" refers to a situation in which the market's key financial assets experience a sharp decline in market value over a relatively short period of time, or when leading businesses are unable to pay their enormous debt, or when financing institutions face a liquidity crunch and are unable to return money to depositors, all of which cause panic in the capital markets and among more, ABCP holders were one of the biggest loss-makers.

Calculate Yield of Commercial Paper

Formula for Yield Commercial Paper:

Yield = (Face Value – Sale Price/ Sale Price) * (360/Maturity Period) * 100


Calculate the interest yield of the following commercial paper:

  • Face Value: $500,000
  • Sale Price: $490,000
  • Maturity period: 100
  • Brokerage and Other charges: 3%


  • Brokerage = 3% of $500,000 = $15,000
  • Net Sale Price = $495,000 – $15,000 = $475,000

The calculation for Yield is as follows –

Commercial Papers Yield Example 1-1
  • Yield = [(Face Value – Sale Price)/Sale Price] * (360/Maturity Period) * 100
  • = (500,000 – 475,000)/475,000 * (360/100) * 100
  • = 18.95%

Pricing of Commercial Paper

Formula for Pricing Commercial Paper:

Price = Face Value / [1+(Yield/100 * Maturity Period/360)]

Commercial Paper Example

Calculate the market price of the following example of commercial paper:

  • Face Value: $500,000
  • Yield (after brokerage): 20%
  • Maturity period: 100


The calculation for Pricing is as follows –

Commercial Papers Pricing Example 1-1
  • Price = Face Value / [1+{(Yield/100)*(Maturity Period/360)}]
  • = 600,000 / [1+(20/360)]
  • = $568,421


  1. No collateral is needed.
  2. Lower cost of funding.
  3. Lesser documentation and compliance.
  4. Highly liquid.
  5. It allows the diversification of funds in short-term instruments.
  6. High-rated instruments, hence fewer chances of default.
  7. For investors, returns are higher as compared to bank deposits.
  8. No restriction on the end-use of funds.


  1. Commercial paper can be issued by investment-gradeInvestment-gradeInvestment grade is the credit rating of fixed-income bonds, bills, and notes as assigned by the credit rating agencies like Standard and Poor’s (S&P), Fitch, and Moody’s to express the creditworthiness of and risk associated with these more banks and large corporations only. Hence it is not a source of fund which is available to all.
  2. Small investors cannot directly invest in commercial paper.
  3. The secondary market for commercial papers is less liquid.


Commercial paper is a negotiable instrumentNegotiable InstrumentA negotiable instrument refers to the transferrable and signed written document whereby the payer guarantees or promises to pay a certain sum on a specific future date or as on-demand to the payee or bearer. It includes bills of exchange, delivery order, promissory note, customer receipt, more issued to get short-term credit. There are certain rules and restrictions on issuances, issuers, and investors. It is usually unsecured but, at times, backed by financial assets. The discount at which the instrument is issued results in the rate of return on commercial paper.

After the 2008 crisis, investors lost their confidence in this instrument, particularly asset-backed ones, but the same has now been restored. As a result, these papers are widely issued and invested in.

Recommended Articles

This has been a guide to Commercial Papers and its definition. Here we discuss the types of Commercial Papers along with its pricing examples, advantages & disadvantages. Here are the other articles in accounting that you may like –

Reader Interactions


  1. Prashantg says


    • Dheeraj Vaidya says

      Thanks for your kind words!