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Carter Enterprises can issue floating-rate debt at LIBOR + 3% or fixed-rate debt at 9%. Brence...

Carter Enterprises can issue floating-rate debt at LIBOR + 3% or fixed-rate debt at 9%. Brence Manufacturing can issue floating-rate debt at LIBOR + 2.9% or fixed-rate debt at 12%. Suppose Carter issues floating-rate debt and Brence issues fixed-rate debt. They are considering a swap in which Carter makes a fixed-rate payment of 7.90% to Brence and Brence makes a payment of LIBOR to Carter. What are the net payments of Carter and Brence if they engage in the swap? Round your answers to two decimal places. Use a minus sign to enter negative values, if any.

a. Net payment of Carter: ______%

b. Net payment of Brence: -(LIBOR +_____%)

c. Would Carter be better off if it issued fixed-rate debt or if it issued floating-rate debt and engaged in the swap?

The swap is good for Carter, if it issued:Select Either: "fixed-rate debt" OR "floating-rate debt and engaged in the swap".

d. Would Brence be better off if it issued floating-rate debt or if it issued fixed-rate debt and engaged in the swap?

The swap is good for Brence, if it issued:Select Either: "fixed-rate debt" OR "floating-rate debt and engaged in the swap".

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Answer #1

a) Net Payment of Carter:

  • Carter paying to bank = Libor + 3%
  • Carter paying to Brence = 7.9%
  • Carter receiving from Brence = Libor

Net Payment = Libor + 3% + 7.9% - Libor = 10.9%

b) Net Payment of Brence:

  • Brence paying to bank = 12%
  • Brence paying to Carter = Libor
  • Brence receiving from Carter = 7.9%

Net Payment = 12% + Libor - 7.9% = Libor + 4.1%

c) Would Carter be better off if it issued fixed-rate debt or if it issued floating-rate debt and engaged in the swap?Answer = "fixed-rate debt" ; Reason - As it would have to pay only 9% instead of 10.9% in case of no swap.

d) Would Brence be better off if it issued floating-rate debt or if it issued fixed-rate debt and engaged in the swap?Answer = "floating-rate debt" ; Reason - As it would have to pay only (Libor + 2.9%) instead of (Libor + 4.1%) in case of no swap.

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