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Compensating Balances. Suppose that Dynamic Sofa (a subsidiary of Dynamic Mattress)

has a line of credit with a stated interest rate of 10 percent and a compensating balance of

25 percent. The compensating balance earns no interest.

a. If the firm needs $10,000, how much will it need to borrow?

b. Suppose that Dynamic's bank offers to forget about the compensating balance require- ment if the firm pays interest at a rate of 12 percent. Should the firm accept this offer? Why or why not?

c. Redo part (b) if the compensating balance pays interest of 4 percent. W arning: You can- not use the formula in the material for the effective interest rate when the compensating balance pays interest. Think about how to measure the effective interest rate on this loan.

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Basic Finance, Finance

Category:- Basic Finance
Reference No.:- M91857453

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