Question

A bank offers your firm a revolving credit arrangement for up to $66 million at an interest rate of 1.65 percent per quarter. The bank also requires you to maintain a compensating balance of 2 percent against the unused portion of the credit line, to be deposited in a non-interest-bearing account. Assume you have a short-term investment account at the bank that pays 1.00 percent per quarter, and assume that the bank uses compound interest on its revolving credit loans.

a. What is your effective annual interest rate (an opportunity cost) on the revolving credit arrangement if your firm does not use it during the year? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Effective annual interest rate %

b. What is your effective annual interest rate on the lending arrangement if you borrow $34 million immediately and repay it in one year? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Effective annual interest rate %

c. What is your effective annual interest rate if you borrow $66 million immediately and repay it in one year? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Effective annual interest rate %

Answer 1

Anscien Page No 0 Ebbiective anny al nieren The ebbective annual interest rate ( an opportunity corf) on the orevolving coedit arrangement if your from does not I use it during the year Bank investment account quarterly interesf = 1%, per quarter i 11.X 4 = 47 effective annual interest rate (it = (1+ yen (1+0.0104-1 = (1.014-1 1.04060 - 1 = 0.04060 = 4.06 .... . F Effective annual interest rate - 4.06%

theofice anual interest rate Page No ③ Effective annual interest vrate on the lending arrange -ment of you boorow $ 34 million immediately g repay it in I years Compensation balance required in Non - beaning interest account .. unused amount = 66 millions – 34 million)x Q7. . = 32 million XQ %. $640,000 372 65% ( n=4) FAR on $ 34 million = (1+ 1.65 */) 4-1 E 1106765 -1 6.465 F r i Effective annual interest rate = 6.765 %. etfective annual intereof viate on opportunity cool = 406%. (o caluation ån @) Proportion of amount deposited 8 non-interest bearing account 640,000 34 million

Page No ③ 640,000 34,000,000 = 0.01882 - 882 Opportuniling cost on non-interest becoing account - 1.882%.x4.06% = 0.000764092 = 0.07640924, Total effective annual interest rate = 6.7654%. + 0.04640924. = 6.84% Tu Effective annual interest rate = 6084% Effective annual interest rate Effective annual interest ovate if you borrow I immediately & repay it in one year $ 65 million i=165% . . . n = 4

- Page No 4 Effective annual interest orate = (1+i)?-1 = (1+165%)4-1 = (1.0165)" -- 1 = 1:0676 5 -1 = 0.06765 = 6.765 % 2 6.87% .: Effective annual interest rate = 6.47%.