Chapter 18, Problem 17QP

Costs of Borrowing [LO3] In exchange for a $400 million fixed commitment line of credit, your firm has agreed to do the following:

1. Pay 1.95 percent per quarter on any funds actually borrowed.

2. Maintain a 4.5 percent compensating balance on any funds actually borrowed.

3. Pay an up-front commitment fee of .15 percent of the amount of the line.

Based on this information, answer the following:

a. Ignoring the commitment fee, what is the effective annual interest rate on this line of credit?

b. Suppose your firm immediately uses $130 million of the fine and pays it off in one year. What is the effective annual interest rate on this $130 million loan?