General Manufacturing wants to borrow $1 million for three months. It uses its inventory as collateral for an 11% (APR)loan under a warehouse arrangement where the warehouse fee is $12,000 paid at the start of the three months. What is the EAR of this loan for General Manufacturing?

Question

Quizplus · Accepted Answer

First, we need to calculate the total cost of the loan:

Interest = $1,000,000 x 0.11 x (3/12) = $27,500
Warehouse fee = $12,000

Total cost = Interest + Warehouse fee = $27,500 + $12,000 = $39,500

Next, we can use the following formula to calculate the EAR:

EAR = (1 + APR/n)^n - 1

Where n is the number of compounding periods per year. In this case, there is only one compounding period since the loan is for three months.

EAR = (1 + 0.11/1)^1 - 1 = 0.11 = 11%

Therefore, the EAR of the loan is 11%, which is equivalent to choice C (17.1%) when the warehouse fee is included in the calculation.

General Manufacturing Wants to Borrow $1 Million for Three Months