Harper Engine Company needs $652,000 to take a cash discount of 2.50/10, net 70.

Question

Harper Engine Company needs $652,000 to take a cash discount of 2.50/10, net 70. A banker will loan the money for 60 days at an interest cost of $14,100.

What is the effective rate on the bank loan? (Use a 360-day year. Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

How much would it cost (in percentage terms) if Harper did not take the cash discount but paid the bill in 70 days instead of 10 days? (Use a 360-day year. Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

If another banker requires a 10 percent compensating balance, how much must Harper borrow to end up with $652,000? (Round your answer to 2 decimal places.)

What would be the effective interest rate in part d if the interest charge for 60 days were $13,900? (Use a 360-day year. Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Should Harper borrow with the 10 percent compensating balance requirement? (There are no funds to count against the compensating balance requirement.)

What is the effective rate on the bank loan? (Use a 360-day year. Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.)

Explanation / Answer

a. Effective rate on bank loan

Interest = 14,100

time = 60 days

Principal = 652,000

Interest = (Principal)*(r)

14,100 = 652,000*(r)

So r =0.02163 For 60 days

For 360 days, it is 0.02163*360/60 = 12.98%

Effective rate of interest = 12.98%

b. Cost of not taking a cash discount = Discount%/(1-Discount %) * 360/(Days - Discount period)

Cost of not taking a cash discount = 2.5/97.5 * 360/60 = 15.38%

c Yes. Harper should borrow money since the cost of loan (12.98%) is lower than the cost of not taking discount (15.38%)

d. Amount to be borrowed = 652,000/(1-0.10) = 652,000/0.9 = $724,444.44

e1.The new effective interest rate = 13,900/(724,444.44 -72,444,44) * 360/60 = 12.79

e2. Yes, Since the cost of borrowing is still lower than cost of not taking discount

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