The Rosewood Corporation established a line of credit with a local bank. The max

Question

The Rosewood Corporation established a line of credit with a local bank. The maximum amount that can be borrowed under the terms of the agreement is $500,000 at a rate of 10 percent. A compensating balance averaging 15 percent of the loan is required. Prior to the agreement, Rosewood had maintained an account at the bank averaging $25,000. Any additional funds needed for the compensating balance will also have to be borrowed at the 10 percent rate. If the firm needs $280,000 for 6 months, what is the annual cost of the loan?

Explanation / Answer

Borrowed Funds = ($280,000/0.85) - ($25,000)

Borrowed Funds = $304,411.8

Rate = {[$304,411.80 × (.10/2)]/$280,000} × [1 /(180/360)]
Rate = .1087 per year

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