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Determine the spread, upper limit and target cash balance

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Question - a. Susan Cheung, owner of Fashion Co, is negotiating with Standard Bank for a $5 million, one- year loan. Standard Bank has offered Fashion the following alternatives. Determine the effective annual rate for each alternative. Fashion does not have a checking account at Standard bank.

(1) A 12 percent annual rate on a simple loan with no compensating balance required and interest rate due at the end of the year.

(2) A 9 percent annual rate on a simple interest loan with 20 percent compensating balance required and interest due at the end of the year.

(3) An 8.7 percent annual rate on a discount loan with a 15 percent compensating balance.

b. MXP Co has set a minimum cash account balance of $75,000. The average cost to the company of making deposits or selling securities is $50 per transaction and the standard deviation of its cash flows was $5,000 per day during the last year. The average interest rate on investments is 4.38%.

Determine the spread, the upper limit and the target cash balance for MXP using the Miller- Orr model and explain how the model operates.

Reference no: EM133147514

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