Your company is considering manufacturing carrying cases for the portable video game machines that are currently popular. Management decides to borrow $200,000 from each of two banks—First American and First Citizen. On the day that you visit both banks, the quoted prime interest rate is 7%. Each loan is similar in that each involves a 60-day note, with interest to be paid at the end of 60 days.

The interest rate was set at 2% above the prime rate on First American’s fixed-rate note. Over the 60-day period, the rate of interest on this note will remain at the 2% premium over the prime rate regardless of fluctuations in the prime rate.

First Citizen sets its interest rate at 1.5% above the prime rate on its floating-rate note. The rate charged over the 60 days will vary directly with the prime rate.

TO DO

First, create a spreadsheet to calculate the following for the First American loan:

a. Calculate the total dollar interest cost on the loan. Assume a 365-day year.

b. Calculate the 60-day rate on the loan.

c. Assume that the loan is rolled over each 60 days throughout the year under identical conditions and terms. Calculate the effective annual rate of interest on the fixed-rate, 60-day First American note.

Next, create a spreadsheet to calculate the following for the First Citizen loan:

d. Calculate the initial interest rate.

e. If the prime rate immediately jumps to 7.5%, and after 30 days it drops to 7.25%, calculate the interest rate for the first 30 days and the second 30 days of the loan.

f. Calculate the total dollar interest cost.

g. Calculate the 60-day rate of interest.

h. Assume the loan is rolled over each 60 days throughout the year under the same conditions and terms. Calculate the effective annual rate of interest.

i. Which loan would you choose, and why?