What is the all-in-cost of forfaiting?
Umaru Oil would probably be motivated to use a forfaiter because its credit worth is too
low to qualify for more normal financing. Note that the 11% annual costs are paid by
b. What might motivate Umaru Oil to use this relatively expensive alternative for financing?
The promissory notes issued by Umaru Oil will be endorsed by their bank, Lagos City Bank, for
a 1% fee and delivered to Gunslinger Drilling. At this point Gunslinger Drilling will endorse the
notes without recourse and discount them with the forfaiter, Bank of Zurich, receiving the full
$200,000 principal amount. Bank of Zurich will sell the notes by re-discounting them to investors in
the international money market without recourse. At maturity the investors holding the notes will
present them for collection at Lagos City Bank. If Lagos City Bank defaults on payment, the
investors will collect on the notes from Bank of Zurich.
a. What is the annualized percentage all-in-cost to Umaru Oil of financing the first $200,000 note
due March 1, 2011?
Problem 16.6 Forfaiting at Umaru Oil (Nigeria)
Umaru Oil of Nigeria has purchased $1,000,000 of oil drilling equipment from Gunslinger Drilling
of Houston, Texas. Umaru Oil must pay for this purchase over the next 5 years at a rate of $200,000
per year due on March 1st of each year.
Bank of Zurich, a Swiss forfaiter, has agreed to buy the 5 notes of $200,000 each at a discount.
The discount rate would be approximately 8% per annum based on the expected 3-year LIBOR rate
plus 200 basis points, paid by Umaru Oil. Bank of Zurich also would charge Umaru Oil an
additional commitment fee of 2% per annum from the date of its commitment to finance until receipt
of the actual discounted notes issued in accordance with the financing contract. The $200,000
promissory notes will come due on March 1st in successive years.