6. Problem 22-07 Problem 22-7 Effective Cost of Short-Term Credit Yonge Corporat

Question

6. Problem 22-07 Problem 22-7 Effective Cost of Short-Term Credit Yonge Corporation must arrange financing for its working capital requirements for the coming year. Yonge can (a) borrow from its bank on a simple interest basis (interest payable at the end of the loan) for 1 year at a 11% nominal rate, (b) borrow on a 3-month, but renewable, loan basis at an 12% nominal rate, (c) borrow on an installment loan basis at a 5% add-on rate with 12 end-of-month payments, or (d) obtain the needed funds by no longer taking discounts and thus increasing its accounts payable. Yonge buys on terms of 1/15, net 45. What is the effective annual cost (not the nominal cost) of the least expensive type of credit, assuming 360 days per year? Round your answer to two decimal places. Alternative has the lowest effective interest rate. The lowest effective interest rate is % Attempts:

Explanation / Answer

a) Effective interest rate = 11%

b) Effective Interest rate = (1+12%/4)^4 - 1 = 12.55%

c) Effective Interest rate = (1+5%/12)^12 = 5.12%

d) Effective Interest rate = (1+1/99)^(360/30) -1 = 12.82%

Answer

Alternative B has the Lowest Effective Interest rate

The Lowest Effective Interest rate = 5.12%

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