Please show work Company A, a low rated firm, desires a fixed rate, long term lo
ID: 2724880 • Letter: P
Question
Please show work
Company A, a low rated firm, desires a fixed rate, long term loan. Company A currently has access to floating-rate funds at a margin of 1.2% over LIBOR. Its direct borrowing cost is 13% in the fixed rate bond market. In contrast, Company B, which prefers a floating rate loan, has access to fixed rate funds in the Eurodollar bond market at 11% and floating rate funds at LIBOR + 0.50%.
(a) What’s the total cost savings can be realized?
(b) Suppose they(A and B) split the cost savings. How much would A pay for its fixed rate funds? How much would B pay for its floating rate funds?
(c) Suppose the intermediary bank gains profit of 0.1%, redo the above problem (ii)?
Explanation / Answer
(a) What’s the total cost savings can be realized?
The total cost savings:
A: 13% -11 % = 2%
b) Suppose they(A and B) split the cost savings. How much would A pay for its fixed rate funds? How much would B pay for its floating rate funds?
Answer
If they split the cost savings, the resulting costs to the two parties would be 12.5% for A and LIBOR for
B, calculated as follows
(c) Suppose the intermediary bank gains profit of 0.1%, redo the above problem (ii)?
Deducting from total; Savings iNTERMEDIARY PROFITS = 1%-0.1% =9.9%
Party Normal Funding cost Cost After Swap Difference Counterparty A 13% 12.50 0.50% Counterparty B LIBOR+0.50% LIBOR 0.50% Total 1%