Reference no: EM132907090

Problem - Assume you have just been hired as a financial analyst by Tennessee Sunshine Inc. (TS), a mid-sized Tennessee company that specializes in creating exotic sauces from imported fruits and vegetables. The firm's CEO, Bill Stooksbury, recently returned from an industry corporate executive conference in San Francisco, and one of the sessions he attended was on the pressing need for companies to institute enterprise risk management programs. Because no one at Tennessee Sunshine is familiar with the basics of enterprise risk management, Stooksbury has asked you to prepare a brief report that the firm's executives could use to gain at least a cursory understanding of the topics. To begin, you gathered some outside materials on derivatives and risk management and used these materials to draft a list of pertinent questions that need to be answered. In fact, one possible approach to the paper is to use a question-and-answer format. Now that the questions have been drafted, you have to develop the answers.

What is a swap? Suppose two firms have different credit ratings. Firm Hi can borrow fixed at 11% and floating at LIBOR 1 1%. Firm Lo can borrow fixed at 11.4% and floating at LIBOR 1 1.5%. Describe a floating versus fixed interest rate swap between firms Hi and Lo in which Lo also makes a "side payment" of 45 basis points to Firm L.