Inventory financing Raymond Manufacturing faces a liquidity crisis—it needs a loan of $120,000 for 1 month....

Inventory financing Raymond Manufacturing faces a liquidity crisis—it needs a loan of $120,000 for 1 month. Having no source of additional unsecured borrowing, the firm must find a secured short-term lender. The firm's accounts receivable are quite low, but its inventory is considered liquid and reasonably good collateral. The book value of the inventory is $360,000, of which $144,000 is finished goods. (Note: Assume a 365-day year.)

(1) City-Wide Bank will make a $120,000 trust receipt loan against the finished goods inventory. The annual interest rate on the loan is 11.5% on the outstanding loan balance plus a 0.14% administration fee levied against the $120,000 initial loan amount. Because it will be liquidated as inventory is sold, the average amount owed over the month is expected to be $88,021.

(2) Sun State Bank will lend $120,000 against a floating lien on the book value of inventory for the 1-month period at an annual interest rate of 13.4%.

(3) Citizens' Bank and Trust will lend $120,000 against a warehouse receipt on the finished goods inventory and charge 15.1% annual interest on the outstanding loan balance. A 0.63% warehousing fee will be levied against the average amount borrowed. Because the loan will be liquidated as inventory is sold, the average loan balance is expected to be $72,000.

a. Calculate the dollar cost of each of the proposed plans for obtaining an initial loan amount of $120,000.

b. Which plan do you recommend? Why?

c. If the firm had made a purchase of $120,000 for which it had been given terms of 1/10 net 28, would it increase the firm's profitability to give up the discount and not borrow as recommended in part b? Why or why not?

Expert Solution

jeff jeffy answered 1 year ago

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