Question

(Related to Checkpoint​ 18.2) ​(Calculating the cost of​ short-term financing) The R. Morin Construction Company needs to borrow ​$90,000 to help finance the cost of a new ​$135,000 hydraulic crane used in the​ firm's commercial construction business. The crane will pay for itself in one​ year, and the firm is considering the following alternatives for financing its​ purchase: Alternative A.   The​ firm's bank has agreed to lend the ​$90,000 at a rate of 12 percent. Interest would be​ discounted, and a 15 percent compensating balance would be required.​ However, the​ compensating-balance requirement is not binding on the firm because it normally maintains a minimum demand deposit​ (checking account) balance of ​$22 comma 500 in the bank.

Alternative B.   The equipment dealer has agreed to finance the equipment with a​ 1-year loan. The ​$90,000 loan requires payment of principal and interest totaling ​$104,436.

a. Which alternative should Morin​ select?

b. If the​ bank's compensating-balance requirement had necessitated idle demand deposits equal to 15 percent of the​ loan, what effect would this have had on the cost of the bank loan​ alternative?

a. The cost of Alternative A would be ______%. ​(Round to two decimal​ places.)

Answer 1

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WORKING CAPITAL APPROACH Microsoft Excel (Product A vation Failed) File Home Insert Page Layout Formulas Data Review View Add-Ins - Cut Ea Copy AutoSum A A Wrap Text Calibri 11 General Fill A Merge & Center Conditional Format Insert Delete Format Paste BIU S % Cell Sort & Find & er Select 2 Clear Format Painter Formatting ble Styles Clipboard Font Alignment Number Shules Cells Editing GM120 GP GN GC GE GG GH GI GJ GK GL GM GP GQ GR 120 ALTERNATIVE A 121 LOAN AMOUNT 122 90000 12% 123 INTEREST 10800 15% 13500 124 COMPENSATING BALANCE 125 COMPENSATING BALANCE NOT REQUIRED TO BE MAINTAINED AS BANK BALANCE MAINTAINED= 22500 126 127 SO EFFECTIVE RATE OF INTEREST = 13.64% [GL123/(GL122-GL123)] 128 INTEREST/NET AMOUNT AVAILABLE 129 130 131 132 ALTERNATIVE B LOAN AMOUNT 133 90000 104436 134 REPAYMENT AMOUNT 135 16.04% (GL134/GL133)- 1 136 EFFECTIVE RATE OF INTEREST 137 138 ALTERNATIVE A IS BETTER AS IT HAS LOWER COST 4 HSheet1 Sheet2 Z SCORE LINE OF CREDITeog miler FACTOR WC REQUIRE insu pv fv cash opti CARD BANKER ACCEPTANC SI DISC FOCAL 130% Re erences 04:29 | 4lm 4 Y ENG 15-06-2019

WORKING CAPITAL APPROACH Microsoft Excel (Product A vation Failed) File Home Insert Page Layout Formulas Data Review View Add-Ins - Cut Ea Copy AutoSum Wrap Text Calibri 11 General Fill A Merge & Center Conditional Format Insert Delete Format Paste S % Cell Sort & Find & er Select BIU 2 Clear Format Painter Formatting ble Styles Clinboard Font Alignment Number Shules Cells Editing GF145 GC GE GP GG GH GI GJ GK GL GM GN GP GQ GR 140 ALTERNATIVE A 141 LOAN AMOUNT 142 90000 143 INTEREST 12% 10800 15% 13500 144 DEMAND DEPOSITS 145 146 SO EFFECTIVE RATE OF INTEREST = 16.44% GL143/(GL142-GL143-GL144)] 147 INTEREST/NET AMOUNT AVAILABLE 148 149 150 151 ALTERNATIVE B LOAN AMOUNT 90000 152 REPAYMENT AMOUNT 153 104436 154 16.04% (GL153/GL152)- 1 155 EFFECTIVE RATE OF INTEREST= 156 157 ALTERNATIVE B IS BETTER AS IT HAS LOWER COST 158 4 HSheet1 Sheet2 Z SCORE insu pv fv cash opti LINE OF CREDIT eoq miler CARD BANKER ACCEPTANC FACTOR SIDISC FOCAL WC REQUIRE 130% O Re erences 04:30 | 4lm 4 Y ENG 15-06-2019