A corporation is planning to issue $1 million of 270-day commercial paper for an effective annual yield of 5 percent. The corporation expects to save 30 basis points on the interest rate by using either an SLC or a loan commitment as collateral for the issue.
a. What are the net savings to the corporation if a bank agrees to provide a 270-day SLC for an up-front fee of 20 basis points (of the face value of the loan commitment) to back the commercial paper issue?
b. What are the net savings to the corporation if a bank agrees to provide a 270-day loan commitment to back the issue? The bank will charge 10 basis points for an up-front fee and 10 basis points for a back-end fee for any unused portion of the loan. Assume the loan is not needed, and that the fees are on the face value of the loan commitment. c. Should the corporation be indifferent to the two alternative collateral methods at the time the commercial paper is issued?
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