Dear Ozge,
With my understanding,
The 6% Interest rate is
"discounted interest rate", so the formula for
Effective Interest= (Interest rate or Discounted interest rate + Commitment fee rate (if any)) / (1-discounted interest rate - compensating balance) * 365 / Loan lengths in days
Applying the given nos: (6%+0%) / (1-6%-22%) * 365 / 365 days = .06 / .072 = 0.0833 =
8.33% Lets take another scenario,
If the question states only 6% interest rate with 22% compensating rate:
Effective Interest = (Interest rate / 1 - CB Rate) * 365 / loan length in days
= 6% / 1-22% = .06 / .078 = 0.07692 = 7.69%
Thanks for posting such questions to clarify each other....!!
-------------------------------------------
Ganesan Sivalingam
Accountant
Sharqiyah Desalination Co SAOG
Muscat
Oman
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Original Message:
Sent: 06-01-2014 08:37 AM
From: Ozge Yagcioglu
Subject: question part 2
Study Unit 6: Managing Current Assets | Subunit 6: Short-Term Financing
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| | Question: 14 | The Flesher Corporation was recently quoted terms on a commercial bank loan of 6% discounted interest with a 22% compensating balance. The term of the loan is 1 year. The effective cost of borrowing is (rounded to the nearest hundredth) |
| | | | | | | | |
| Answer (D) is correct.
The effective interest rate on a discounted loan with a compensating balance requirement can be calculated as follows: | Effective rate | = | Stated rate ÷ (1.0 - Stated rate - Compensating balance %) |
| = | 6% ÷ (100% - 6% - 22%) |
| = | 6% ÷72% |
| = | 8.33% | |
| |