Reference no: EM13225081
Manufacturing faces a liquidity crisis - it needs a loan of $100,000 for 1 month. Having no source of additional unsecured borrowing, the firm must find a secured short-term lender. The firm's accounts receivable are quite low, but its inventory is considered liquid and reasonable good collateral. The book value of the inventory is $300,000, of which $120,000 is finished goods. (Assume a 365-day year.)
City-Wide Bank will make a $100,000 trust receipt loan against the finished goods inventory. The annual interest rate on the loan is 12% on the outstanding loan balance plus a 0.25% administrative fee levied against the $100,000 initial loan amount. Because is will be liquidated as inventory is sold, the average amount owed over the month is expected to be $75,000.
Sun State Bank will lend $100,000 against a floating lien on the book value of inventory for the 1-month period at an annual interest rate of 13%
Citizens' Bank and Trust will lend $100,000 against a warehouse receipt on the finished goods inventory and charge 15% annual interest on the outstanding loan balance. A 0.5% warehousing fee will be leived against the average amount borrowed. Because the loan will be liquidated as inventory is sold, the average loan balance is expected to be $60,000.
1) Calculate the dollar cost of each of the proposed plans for obtaining an initial loan amount of $100,000.
2)Which plan do you recommend? Why?
3)If the firm had made a purchase of $100,000 for which it had been given terms of 2/10 net 30, would it increase the firm's profitability to give up the discount and not borrow as recommended in part b? Why or why not?
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