Question

In exchange for a $400 million fixed commitment line of credit, your firm has agreed to do the following:

- Pay 1.97 percent per quarter on any funds actually borrowed.
- Maintain a 1 percent compensating balance on any funds actually borrowed.
- Pay an up-front commitment fee of 0.23 percent of the amount of the line.

Based on this information, answer the following:

**a.** Ignoring the commitment fee, what is the
effective annual interest rate on this line of credit? **(Do
not round intermediate calculations and enter your answer as a
percent rounded to 2 decimal places, e.g., 32.16.)
**

Effective annual rate %

Effective annual rate %

Answer #1

a). Effective Annual Interest Rate = [(1 + Interest per period)^(Number of compounding periods in a year)] -1

= [1.0197]^{4} - 1 = 1.0812 - 1 = 0.0812, or 8.12%

b). 5% Compensating Balance = $227 x 0.05 = $11.35 million

Upfront Commitment Fee = 0.23% x 227 = $522,100

Amount Availed = Loan Amount - Compensating Balance - Upfront Commitment Fee

= $227,000,000 - $11,350,000 - $522,100 = $215,127,900

Interest Cost = $227,000,000 * 8.12% = $18,423,154.77

EAR = $18,423,154.77 / $215,127,900 = 0.0856, or 8.56%

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