The Raattama Corporation had sales of $ 3.5 million last year, and it earned a 5
ID: 2770079 • Letter: T
Question
The Raattama Corporation had sales of $ 3.5 million last year, and it earned a 5% return (after taxes) on sales. Recently, the company has fallen behind in its accounts payable. Although its terms of purchase are net 30 days, its accounts payable represents 60 days purchases. The company's treasurer is seeking to increase bank borrowing in order to become current in meeting its trade obligations (that is, to have 30 days payables outstanding). The company's balance sheet is as follows ( in thousands of dollars)
cash $ 100 accounts payable $ 600
Accounts receivable $ 300 Bank loans 700
Inventory 1,400 Accruals 200
Current Assets 1,800 Current liabilities 1,500
Land and buildings 600 Mortgage on real state 700
equipment 600 Common stock $ 0.1 par 30
Retained earnings 500
Total assets 3,000 Total liabilities and equity 3,000
a) How much bank financing is needed to eliminate the past-due accounts payable? Answer: $ 300,000
b) Assume the bank will end the firm teh amount calculated in part a. The terms o fthe loan are 7.5%, add-on interest, to be repaid in 12 monthly installments
1) what is the APR of the loan? Answer: 13.57%
2) what is the effective rate of the loan? Answer: 14.44%
Please include all work details that match the answer.
Explanation / Answer
a.Bank Financing required = Accounts Payable x (Days in terms / Actual Days)
=> $600,000 x (30/60) = $300,000
b. To answer these questions, we must have nominal interest rate, which is not provided in the question. However, I assume it to be 8%. Below are the solutions:
Simple interest rate per day = Nominal rate/Days in year => 0.08/360 = 0.000222222.
Interest charge for month = Rate per day × Loan amount × Days in month
=> 0.000222222 × $300,000 × 30 = $2,000.
Interest Amount = $300,000 × 0.075 = $22,500.
Loan amount = $300,000 + $22,500 = $322,500.
(2) Monthly installments = $322,500/12 = $26,875.
Enter the following inputs into your calculator:
N = 12; PV = 300000; PMT = -26875; FV = 0; and solve for I/YR. I/YR = 1.130552026%.
Remember, this is a monthly rate, so APR is: APR = 12 × 1.130552026% = 13.57%.
Effective Rate of Loan = (1.01130552026)12 - 1 = 14.44%.
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