A company needs to borrow $300,000 because they are expecting an expansion in re
ID: 2666065 • Letter: A
Question
A company needs to borrow $300,000 because they are expecting an expansion in receivables due to increased sales. The company will use their accounts receivable as collateral for the loan. The bank offered a loan of 75% of the face value of the receivables pledged at 2% over prime (which is currently at 11%) plus a 1% processing charge on all receivables pledged ($200,000 monthly). Thus, estimate the cost of the receivables loan. In addition, the company needs a $300,000 line of credit, which the bank offered at 3% over prime and a 15% compensating balance. The company maintains an average demand deposit of $80,000. Estimate the cost of the line of credit to the company.DATA:
Needs--300,000; Company's net credit terms--60; Monthly credit sales--200,000; A/R balance 400,000; Over prime 2%; Processing charge--1%; Receivable pledged--200,000; Face value lent--75%
Explanation / Answer
Cost of line of credit: compensating balance required at the bank = $300,000 * 15% = $45,000, since the company on average keeps $80,000 they do not need to put in any additional funds at the bank (as long as they keep the deposit there). So the rate for the credit line is just 11% + 3% If the bank did not have a demand deposit the loan rate would have been. 11% + 3% * [$300,000/($300,000 - $45,000)], this is because they only receive $255,000 but are paying interest on $300,000. which is equal to: 16.47% Receivables loan: Interest charged = monthly fee * 12 + interest * loan amount = $200,000*1% * 12 + 200,000*75%(they could only borrow 75% of the amount they pledged)*13% = $24,000 + $19,500 Interest charged = $43,500 Interest % charged = interest charged/loan amount = $43,500 / ($200,000*75%) = 29% So the credit line loan is definitely the cheapest even if the company did not have a demand deposit at the bank.
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