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12) Gemini Real Estate is ofered a $2 million line of credit for four months at an APR of
9%. This loan has a loan origination fee of 1.5%. What is the actual four-month interest rate
paid, expressed as an EAR?
A) 4.57%
B) 9.68%
C) 12.44%
D) 14.34%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
13) Conways Rooing Services is ofered a $1 million line of credit for three months at an
APR of 8%. The bank requires that the irm keep an amount equal to 12% of the loan
principal in a non-interest-earning account with the bank as long as the loan remains
outstanding. What is the actual three-month interest rate paid, expressed as an EAR?
A) 9.41%
B) 24.40%
C) 60.30%
D) 80.40%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
31
14) Jim's Electrical is ofered a $400,000 line of credit for six months at an APR of 9%. The
bank requires that the irm keep an amount equal to 5% of the loan principal in a non-
interest-earning account with the bank as long as the loan remains outstanding. What is
the actual six-month interest rate paid, expressed as an EAR?
A) 3.2%
B) 5.0%
C) 9.70%%
D) 24.3%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
15) Stuart Mining is ofered a $4,000,000 line of credit for three months at an APR of 6%.
The bank requires that the irm keep an amount equal to 10% of the loan principal in an
account with the bank as long as the loan remains outstanding. This account pays 2% APR
with quarterly compounding. What is the actual three-month interest paid on this loan?
A) 1.6%
B) 6.6%
C) 12.6%
D) 14.6%
E) 60.9%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
32
16) A loan agreement that requires the irm to pay interest on the loan and pay back the
principal in one lump sum at the end of the loan is called ________.
A) a short-term mortgage loan
B) a single, end-of-period-payment loan
C) a bridge loan
D) a line of credit
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
17) A short-term bank loan that is often used until a irm can arrange for long-term
inancing is called ________.
A) a committed line of credit
B) a short-term mortgage loan
C) a bridge loan
D) a single, end-of-period-payment loan
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
18) A written, legally binding agreement that obligates the bank to lend a irm any amount
up to a stated maximum, regardless of the inancial condition of the irm (unless the irm is
bankrupt) as long as the irm satisies any restrictions in the agreement is called ________.
A) a bridge loan
B) a single, end-of-period-payment loan
C) a short-term mortgage loan
D) a committed line of credit
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
33
19) Which of the following statements is FALSE?
A) Bank loans are typically initiated with a promissory note, which is a written statement
that indicates the amount of the loan, the date payment is due, and the interest rate.
B) The most straightforward type of bank loan is a single, end-of-period-payment loan.
C) With a ixed interest rate, the speciic rate that the bank will charge is stipulated at the
time the loan is made.
D) One of the primary sources of short-term inancing, especially for small businesses, is
the investment bank.
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
20) Which of the following statements is FALSE?
A) The prime rate is the rate banks charge other banks.
B) With a variable interest rate, the terms of the loan may indicate that the rate will vary
with some spread relative to a benchmark rate, such as the yield on one-year Treasury
securities or the prime rate.
C) With a discount loan, the borrower is required to pay the interest at the beginning of the
loan period.
D) A common benchmark rate is the London Inter-Bank Ofered Rate, or LIBOR, which is
the rate of interest at which banks borrow funds from each other in the London interbank
market.
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
34
21) Which of the following statements regarding lines of credit is FALSE?
A) The line of credit agreement may also stipulate that at some point in time the
outstanding balance must be zero. This policy ensures that the irm does not use the short-
term inancing to inance its long-term obligations.
B) A revolving line of credit is an uncommitted line of credit that involves an informal
agreement from the bank for a longer period of time, typically two to three years.
C) The line of credit may be uncommitted, meaning it is an informal agreement that does
not legally bind the bank to provide the funds.
D) A revolving line of credit with no ixed maturity is called evergreen credit.
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
22) Which of the following statements is FALSE?
A) Regardless of the loan structure, the bank may include a compensating balance
requirement in the loan agreement that reduces the usable loan proceeds.
B) A common type of fee is a loan origination fee, which a bank charges to cover credit
checks and legal fees.
C) Firms frequently use lines of credit to inance seasonal needs.
D) The commitment fee associated with a committed line of credit is designed to decreases
the efective cost of the loan to the irm.
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
35
23) Luther Industries is ofered a $1 million dollar loan for four months at an APR of 9%. If
this loan has an origination fee of 1%, then the efective annual rate (EAR) for this loan is
closest to ________.
A) 12.0%
B) 12.6%
C) 4.1%
D) 13.8%
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
24) Luther Industries is ofered a $1 million loan for four months at an APR of 9%. If
Luther's bank requires that the irm maintain a compensating balance equal to 10% of the
loan amount in a non-interest-earning account, then the efective annual rate EAR for this
loan is closest to ________.
A) 10.3%
B) 12.6%
C) 14.4%
D) 71.5%
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
36
25) What is single, end-of-period payment loan?
AACSB Objective: Analytic Skills
Author: SS
Question Status: Previous Edition
26) What are commitment fees and what efect does it have on the loan?
AACSB Objective: Analytic Skills
Author: SS
Question Status: Previous Edition
27) What are loan origination fees and what efect does it have on the loan?
AACSB Objective: Analytic Skills
Author: SS
Question Status: Previous Edition
28) What are compensating balance and what efect does it have on the loan?
AACSB Objective: Analytic Skills
Author: SS
Question Status: Previous Edition
20.4 Short-Term Financing with Commercial Paper
1) Commercial paper is usually a more expensive source of funds than a short-term bank
loan.
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
2) The interest on commercial paper is typically paid by selling it at an initial discount.
AACSB Objective: Analytic Skills
37
Author: DS
Question Status: Previous Edition
3) Commercial paper is rated by credit rating agencies.
AACSB Objective: Analytic Skills
Author: JP
Question Status: Previous Edition
4) What is the maximum maturity of commercial paper?
A) 60 days
B) 90 days
C) 180 days
D) 270 days
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
5) A irm issues three-month commercial paper with $200,000 face value and receives
$192,000. What is the EAR the irm is paying for these funds?
A) 5.24%
B) 8.00%
C) 16.00%
D) 17.74%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
38
6) A irm issues six-month commercial paper with $500,000 face value and receives
$488,000. What is the EAR the irm is paying for these funds?
A) 2.40%
B) 2.45%
C) 4.98%
D) 6.00%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
7) A irm issues two-month commercial paper with $1,000,000 face value and receives
$985,000. What is the EAR the irm is paying for these funds?
A) 1.52%
B) 7.50%
C) 9.49%
D) 15.00%
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
8) Ultimate Industries issues commercial paper with a face value of $500,000 and a
maturity of six months. Ultimate receives net proceeds of $486,000 when it sells the paper.
If the prime rate is 8.5% APR compounded quarterly, how much savings in interest did
Ultimate realize by accessing the commercial paper market?
A) $4,248
B) $6,874
C) $7,291
D) $12,480
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
39
