O'Reilly and CB Solutions. Heather O'Reilly, the treasurer of CB Solutions, believes interest rates are going to rise, so she wants to swap her future floating-rate interest payments for fixed rates. Presently, she is paying LIBOR plus+2.00% per annum on $5,200,000 of debt for the next two years, with payments due semiannually. LIBOR is currently 3.98% per annum. Heather has just made an interest payment today, so the next payment is due six months from now. Heather finds that she can swap her current floating-rate payments for fixed payments of 7.006% per annum. (CB Solutions' weighted average cost of capital is 12%, which Heather calculates to be 6% per 6-month period, compounded semiannually).
a. If LIBOR rises at the rate of 50 basis points per 6-month period, starting tomorrow, how much does Heather save or cost her company by making this swap?
The swap (savings/cost) for the first six-month period is_____________.
(Select from the drop-down menu and round to the nearest dollar.)
b. If LIBOR falls at the rate of 25 basis points per 6-month period, starting tomorrow, how much does Heather save or cost her company by making this swap?
The swap (savings/cost) for the first six-month period is_____________.
(Select from the drop-down menu and round to the nearest dollar.)
| Solution (a) | Solution (b) | |
| Current LIBOR | 3.98 % | 3.98 % |
| Changes in LIBOR | 0.50 % | -0.25 % |
| 6 Month LIBOR | 4.48 % | 3.73 % |
| Add: 2% | 2.00 % | 2.00 % |
| Floating Interest Rate for Next 6 Month (p.a.) | 6.48 % | 5.73 % |
| Fixed Rate (p.a.) | 7.006 % | 7.006 % |
| Extra Interest to be paid (in % p.a.) | 0.526 % | 1.276 % |
| Loan Amount | $ 5,200,000.00 | $ 5,200,000.00 |
| Extra Cost to be paid (In $) | $ 13,476.00 | $ 33,176.00 |
Solution (a) Swap Cost for the First 6 Month = $ 13,476.00
Solution (b) Swap Cost for the First 6 Month = $ 33,176.00
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