4. A knitting business plans to borrow money and build up inventory now in antic

Question

4. A knitting business plans to borrow money and build up inventory now in anticipation of the holiday season. The following figures are the projected revenues and liabilities the company has for the next six months:

There are two borrowing options available to the company: (1) a six-month loan that is available at the beginning of July and needs to be paid at the end of December with 11% interest, and (2) a monthly loan that is available at the beginning of each month and needs to be paid at the beginning of the following month with 5% interest. Help Stewart determine a borrowing plan that will meet his cash flow needs while minimizing the total interest he pays over the next six months.

Month July August September October November December RevenuesLiabilities $30,000$70,000 50,000 80,000 30,000 40,000 20,000 30,000 50,000 55,000 70,000 100,000

Explanation / Answer

1. if they go with the first option, i.e. taking loan for 6 months at 11% interest, then the total cost will be

total loan= $235,000

the interest rate is 11%

total repayable amount after december= 235,000*1.11= $260,850

if they takes loan on monthly basis at 5% interest, then their total payment will be

the december amount will be paid in January - is 5000

the total interest payment= 5000+3500+2750+2500+1500+1500= $16,750

in the above calculations, the total interest is $25,850

so, it is better to go with monthly loan option.

month capital interest July 30,000 - aug 30,000 1500 september 50,000 1500 october 55,000 2500 november 70,000 2750 december 100,000 3500

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