CFA Practice Question
A firm sells commercial paper of face value $1,000,000 for 2 months. The quoted rate on the paper is 5.43%. The backup line cost is 0.20% and the dealer's commission is 0.09 percent, both of which are assessed on face value. The effective cost of financing for the firm is:
A. 7.316%
B. 7.235%
C. 6.198%
Explanation: Costs = (5.43% * (2 months/12 months) + 0.20% + 0.09%) * 1,000,000 = 11,950 (remember that the interest costs are annualized, whereas the duration of the CP is only 2 months)
The proceeds from the sale are: $1,000,000 * (1 - 5.43% * (2 months/12 months)) = 990,950
Therefore Commercial Paper (CP) cost = (12/2) * 11,950 / 990,950 = 7.235%
User Contributed Comments 2
| User | Comment |
|---|---|
| Sandar | isn't that diffferent from the textbook calculation ..both based on the same face value.. |
| michaeloa3 | Yeah, threw me off, it is different, textbook, treats backup line cost and dealer commission as calculated as percentages over only 2 months |