Question

Central City Bank will lend Williams Inc. 69% of the value of its inventory at 13.5% if Williams will pledge the inventory as collateral for the loan. The bank also insists that Williams employ a warehousing company to monitor and control the inventoried material. Blyth Warehousing will do the job for an annual fee of $150,000 plus 2% of the value of all the inventory it handles. Williams moves inventory valued at about $15 million through its plant each year at a turnover rate of five times. What will the cost of financing be under this proposal?

State the result in dollar term. Enter your answer in dollars. For example, an answer of $1.2 million should be entered as 1,200,000, not 1.2.
$_____
   
State the result in percentage (of amount borrowed) term. Round the answer to two decimal places.
_____%

Answer 1

Total cost of financing = $729,450

Financing cost as a % of loan = 35.24%

EXPLANATION

The cost of financing will be calculated through the following steps:-

step 1 :-Average inventory balance

  Average inventory balance = total inventory / Turnover rate

= $15,000,000 / 5 = 3,000,000

step 2 :- Average loan

Average loan = average inventory * lending Rate = $3,000,000 * .69 = $2,070,000

step 3 :-Interest on loan

interest on loan = Average loan * interest rate = $2,070,000 * 13.5% = $279,450

step 4 :- Handling fee

handling fee = $150,000 + 2% of the value of all the inventory =$150,000 + ($15,000,000 * .02)

= $150,000 + $300,000 = $450,000

step 5 :-Total financing cost

Total cost of financing = interest + handling fee= $$279,450 + $450,000 = $729,450

step 6 :- Financing cost as a % of loan = $729,450 / $2,070,000 = 35.24%