Company AA manufactures office furniture. It has a total of 800 million borrowings with interest payable...

    

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Company AA manufactures office furniture. It has a total of £800 million borrowings with interest payable annually in arrears comprising: • £400 million borrowings at a fixed interest rate of 4% • £400 million borrowings at an interest rate of 12-month LIBOR plus 2% On 1 June 2021, Company AA entered into a 3-year interest rate swap with Barclays Bank. Under the swap, Company AA pays 2.6% fixed and receives 12-month LIBOR, interest settled annually, on a notional principal of £200 million. 12-month LIBOR: Fixing date 1 June 2021 (actual) 1 June 2022 (forecast) 1 June 2023 (forecast) 1 June 2024 (forecast) Required: 12-month LIBOR 2.4% 2.5% 2.7% 3.7% a) Calculate the change in the fixed/floating rate profile of Company AA's borrowings over the next three years as a result of entering into the £200 million interest rate swap with Barclays Bank. Question continued c) Prepare the following cash forecasts for the period 2 June 2021 to 1 June 2024 based on the 12-month LIBOR rates provided: (i) Cash flows to be paid or received by Company AA under the £200 million interest rate swap with Barclays Bank. (ii) Net cash flows due on the £400m floating rate borrowing after taking into account the cash flows paid or received under the £200 million interest rate swap with Barclays Bank. 3b) Discuss the advantages and disadvantages to Company AA of increasing the proportion of fixed rate finance held. d) Analyse and explain your results in part c) (ii) above. e) Discuss the differences between the features and uses of a forward rate agreement (FRA) and an interest rate swap (IRS) and explain why Company A chose to use an IRS rather than a FRA in this scenario. Company AA manufactures office furniture. It has a total of £800 million borrowings with interest payable annually in arrears comprising: • £400 million borrowings at a fixed interest rate of 4% • £400 million borrowings at an interest rate of 12-month LIBOR plus 2% On 1 June 2021, Company AA entered into a 3-year interest rate swap with Barclays Bank. Under the swap, Company AA pays 2.6% fixed and receives 12-month LIBOR, interest settled annually, on a notional principal of £200 million. 12-month LIBOR: Fixing date 1 June 2021 (actual) 1 June 2022 (forecast) 1 June 2023 (forecast) 1 June 2024 (forecast) Required: 12-month LIBOR 2.4% 2.5% 2.7% 3.7% a) Calculate the change in the fixed/floating rate profile of Company AA's borrowings over the next three years as a result of entering into the £200 million interest rate swap with Barclays Bank. Question continued c) Prepare the following cash forecasts for the period 2 June 2021 to 1 June 2024 based on the 12-month LIBOR rates provided: (i) Cash flows to be paid or received by Company AA under the £200 million interest rate swap with Barclays Bank. (ii) Net cash flows due on the £400m floating rate borrowing after taking into account the cash flows paid or received under the £200 million interest rate swap with Barclays Bank. 3b) Discuss the advantages and disadvantages to Company AA of increasing the proportion of fixed rate finance held. d) Analyse and explain your results in part c) (ii) above. e) Discuss the differences between the features and uses of a forward rate agreement (FRA) and an interest rate swap (IRS) and explain why Company A chose to use an IRS rather than a FRA in this scenario.

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