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Questions and Answers
What is the effective interest rate (EIR) when a borrower borrows RM10,000 at 12% for six months with a compensating balance of 10%?
What is the effective interest rate (EIR) when a borrower borrows RM10,000 at 12% for six months with a compensating balance of 10%?
When calculating the EIR for a loan, what component is included in the formula alongside the interest?
When calculating the EIR for a loan, what component is included in the formula alongside the interest?
What is the total interest cost incurred when borrowing RM10,000 at a discounted rate of 10%?
What is the total interest cost incurred when borrowing RM10,000 at a discounted rate of 10%?
If a firm needs a compensating balance of 8% on a RM10,000 loan, what amount is set aside as the compensating balance?
If a firm needs a compensating balance of 8% on a RM10,000 loan, what amount is set aside as the compensating balance?
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In the scenario where a firm borrows RM80,000 and has a commitment fee of 0.50% on the unused amount of RM20,000, how much is the commitment fee?
In the scenario where a firm borrows RM80,000 and has a commitment fee of 0.50% on the unused amount of RM20,000, how much is the commitment fee?
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How is the net proceeds calculated when dealing with compensating balances and discounted interest?
How is the net proceeds calculated when dealing with compensating balances and discounted interest?
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What is the effective interest rate (EIR) when a firm borrows RM10,000 for one year at 10% with a compensating balance of 8%?
What is the effective interest rate (EIR) when a firm borrows RM10,000 for one year at 10% with a compensating balance of 8%?
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If a company issues RM100,000 of commercial paper sold at 94% with an issuing cost of 5%, what factor decreases the amount received by the company?
If a company issues RM100,000 of commercial paper sold at 94% with an issuing cost of 5%, what factor decreases the amount received by the company?
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What is the primary characteristic of unsecured financing?
What is the primary characteristic of unsecured financing?
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What is a key advantage of using short-term financing?
What is a key advantage of using short-term financing?
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Which of the following is considered a risk associated with short-term debt?
Which of the following is considered a risk associated with short-term debt?
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What type of financing can be categorized as spontaneous?
What type of financing can be categorized as spontaneous?
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How does short-term borrowing differ from long-term borrowing regarding interest rates?
How does short-term borrowing differ from long-term borrowing regarding interest rates?
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What are notes payable used for in short-term financing?
What are notes payable used for in short-term financing?
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Why might a firm prefer short-term financing for seasonal needs?
Why might a firm prefer short-term financing for seasonal needs?
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Which type of short-term financing is considered non-spontaneous?
Which type of short-term financing is considered non-spontaneous?
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What is the primary purpose of account receivable factoring?
What is the primary purpose of account receivable factoring?
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What happens when a firm pledges its account receivables as collateral?
What happens when a firm pledges its account receivables as collateral?
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Which type of financing allows a firm to receive a security interest on its entire inventory?
Which type of financing allows a firm to receive a security interest on its entire inventory?
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In a warehouse agreement, when is the inventory released to the borrower?
In a warehouse agreement, when is the inventory released to the borrower?
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What does the effective annual interest rate consider that the nominal interest rate does not?
What does the effective annual interest rate consider that the nominal interest rate does not?
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What is the effect of a compensating balance on a loan?
What is the effect of a compensating balance on a loan?
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Which of the following describes warehouse receipts?
Which of the following describes warehouse receipts?
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What type of loan requires interest to be paid in advance?
What type of loan requires interest to be paid in advance?
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What is the interest earned from a commercial paper sold for RM980,000 with a face value of RM1 million and an interest rate of 2%?
What is the interest earned from a commercial paper sold for RM980,000 with a face value of RM1 million and an interest rate of 2%?
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What is the effective interest rate (EIR) for a commercial paper with an effective interest calculated from RM20,000 of interest and a proceeds amount of RM980,000 over 90 days?
What is the effective interest rate (EIR) for a commercial paper with an effective interest calculated from RM20,000 of interest and a proceeds amount of RM980,000 over 90 days?
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If Mustika Bhd borrows RM3 million with a 10% compensating balance and interest of 15%, what is the effective interest rate?
If Mustika Bhd borrows RM3 million with a 10% compensating balance and interest of 15%, what is the effective interest rate?
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In the process of issuing a commercial paper, if Ratu Bhd has a placement fee of RM150,000 for a 270-day maturity at a 9.5% interest rate, what should be considered in calculating the effective interest rate?
In the process of issuing a commercial paper, if Ratu Bhd has a placement fee of RM150,000 for a 270-day maturity at a 9.5% interest rate, what should be considered in calculating the effective interest rate?
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What is the calculation to find the interest amount if the face value is RM100,000 and the interest rate is 0.05?
What is the calculation to find the interest amount if the face value is RM100,000 and the interest rate is 0.05?
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When finding the effective interest rate, which of the following factors must be included?
When finding the effective interest rate, which of the following factors must be included?
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What is the purpose of a compensating balance in loans?
What is the purpose of a compensating balance in loans?
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Why is the effective interest rate (EIR) important for financial decision-making?
Why is the effective interest rate (EIR) important for financial decision-making?
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Which of the following borrowing options is typically made for a period of one year and is not a guaranteed loan?
Which of the following borrowing options is typically made for a period of one year and is not a guaranteed loan?
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Which borrowing option guarantees a specific amount of funds will be made available to the borrower?
Which borrowing option guarantees a specific amount of funds will be made available to the borrower?
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What is the primary characteristic of a Commercial Paper issuance?
What is the primary characteristic of a Commercial Paper issuance?
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Which of the following borrowing options involves a commitment fee on the unused balance of the credit agreement?
Which of the following borrowing options involves a commitment fee on the unused balance of the credit agreement?
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Which of the following is NOT a document typically required when a borrower applies for a line of credit?
Which of the following is NOT a document typically required when a borrower applies for a line of credit?
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What is the purpose of an Overdraft facility provided by commercial banks?
What is the purpose of an Overdraft facility provided by commercial banks?
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What is the most common characteristic that distinguishes a Line of Credit from a Revolving Credit?
What is the most common characteristic that distinguishes a Line of Credit from a Revolving Credit?
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What is the primary reason why Commercial Paper is typically issued in multiples of RM100,000 or more?
What is the primary reason why Commercial Paper is typically issued in multiples of RM100,000 or more?
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What is the formula used to calculate the Effective Interest Rate (EIR)?
What is the formula used to calculate the Effective Interest Rate (EIR)?
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In the example where a borrower receives RM10,000 at 12% interest for 6 months, what is the calculated EIR?
In the example where a borrower receives RM10,000 at 12% interest for 6 months, what is the calculated EIR?
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When a loan is given at a discounted interest rate, what happens to the proceeds received by the borrower?
When a loan is given at a discounted interest rate, what happens to the proceeds received by the borrower?
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What impact does a compensating balance have on the effective interest rate?
What impact does a compensating balance have on the effective interest rate?
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What would the effective interest rate be if the borrower borrows RM10,000 at a discounted interest rate for 6 months with 12% interest?
What would the effective interest rate be if the borrower borrows RM10,000 at a discounted interest rate for 6 months with 12% interest?
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If a borrower is charged RM1,200 in interest for receiving a loan of RM10,000 at an effective interest rate of 12%, what is the duration of the loan in months?
If a borrower is charged RM1,200 in interest for receiving a loan of RM10,000 at an effective interest rate of 12%, what is the duration of the loan in months?
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What is the effect of a high discount on the interest rate for the borrower?
What is the effect of a high discount on the interest rate for the borrower?
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Calculate the interest received at the end of 12 months for a loan of RM10,000 at 12% interest.
Calculate the interest received at the end of 12 months for a loan of RM10,000 at 12% interest.
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Study Notes
Chapter 8: Short Term Financing
- Short-term financing is a short-term obligation expected to mature in one year or less
- It's used to support a significant portion of a firm's current assets
- It's employed to handle seasonal and temporary fluctuations in company funds
Learning Outcomes
- Understand secured and unsecured financing
- Determine financing costs
- Calculate the effective cost of short-term loans
- Calculate the effective cost of factoring and pledging receivables
Chapter Content
- Types of Short-Term Financing:
- Secured
- Unsecured (kurang atau setahun)
- Cost of financing
Internal or Spontaneous Financing
- Short-term financing generated internally from normal business activities
- Sources include:
- Accrued wages and taxes
- Accounts payable or trade credit
Direct Borrowings from Banks/Unsecured Financing
- Short-term financing from external sources
- Methods include:
- Short-term bank loans
- Notes payable
- Line of credit
- Revolving credit
- Commercial paper
Short Term Bank Loans
- Banks provide non-spontaneous funds
- Firms request additional funds as their financing needs increase
Notes Payable
- Single payment loan from a bank to a credit-worthy business borrower
- Used when a borrower needs additional funds for a short period
- The loan agreement is documented in a note signed by the borrower
Line of Credit
- Agreement between a bank and a business firm specifying the amount of short-term borrowing
- Typically granted for one year
- Not a guaranteed loan; the bank will lend if it has sufficient funds available
- Borrower must apply each time they need to access the line of credit, providing documents such as a cash budget, proforma income statement, and proforma balance sheet.
Revolving Credit
- Guaranteed line of credit from a bank
- A specified amount is made available for a period of one, two, or three years.
- A commitment fee is charged to the borrower on the unused balance of the credit agreement
Consumer Revolving Credit
- Credit card companies, department stores, and banks provide lines of credit
- Interest is compounded monthly, making the effective rate higher than the stated rate
Revolving Credit Agreement (RCA)
- Formal agreement between a borrower and a bank
- Includes a commitment fee charged on the unused portion of the granted credit facility
- Represents a penalty for not using the entire allocated facility
Overdraft
- Short-term facility from a bank granted to current account holders
- Covers short-term financial constraints
- Interest charged depends on borrower's risk
- Interest calculated daily, with penalties for non-payment
Commercial Paper
- Short-term unsecured promissory notes issued by creditworthy firms
- Primarily used by large corporations with established reputations
- Maturity period typically ranges from 3 to 270 days
- Issued in multiples of RM100,000 or more
Account Receivable Factoring
- Involves pledging or selling receivables to secure a loan
- The seller of receivables (the business) can sell all of their receivables to a third party.
Pledging
- Using accounts receivable as collateral for a loan
- Finance companies assess the creditworthiness of pledged accounts.
Inventory Financing
- Floating Lien Agreement:
- Security interest on the firm's entire inventory
- Encompasses present and future inventory
- Trust Receipts
- Firm holds inventory for the lender
- Proceeds from inventory must be transferred to the lender.
Cost of Loan
- Nominal Interest Rate: The stated rate, unadjusted for inflation or borrowing terms
- Effective Annual Interest Rate: The actual cost of borrowing after accounting for compounding and terms associated with the borrowings
- Discounted Loan: Interest paid in advance, leading to lower loan proceeds
- Compensating Balance: Deposit held with the bank to compensate for loans or services
Effective Interest Rate Calculation Examples
- Provided with examples and calculations on various scenarios such as different time periods (1 year, 6 months), and specific amounts
- Calculation examples with discounts and compensating balances
Discounted Interest Rate
- Occurs when the interest is deducted in advance.
- Example calculations provided.
Compensating Balance
- Compensating balance increases the effective interest rate
- Example calculations provided
Illustration 1 and 2 Calculation Examples
Exercise 1 and 2 calculation examples
References
- Financial Management by Rohani A. Ghani and Mohd Sabri Hj Mohd Amin, InED, UiTM Shah Alam.
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Description
This quiz covers essential concepts related to effective interest rates, compensating balances, and financial costs associated with borrowing. It includes calculations for various loan scenarios, emphasizing the importance of understanding interest rates, fees, and net proceeds. Test your knowledge on these crucial financial principles.
