Selecting Kanton Company’s Financing Strategy and Unsecured Short-Term Borrowing Arrangement
Chapter 16
Chapter Case
Selecting Kanton Company’s Financing Strategy and Unsecured Short-Term Borrowing Arrangement
Morton Mercado, the CFO of Kanton Company, carefully developed the estimates of the firm’s total funds requirements for the coming year. These are shown in the following table.
Month
Total funds
Month
Total funds
January
$1,000,000
July
$6,000,000
February
1,000,000
August
5,000,000
March
2,000,000
September
5,000,000
April
3,000,000
October
4,000,000
May
5,000,000
November
2,000,000
June
7,000,000
December
1,000,000
In addition, Morton expects short-term financing costs of about 10% and long-term financing costs of about 14% during that period. He developed the three possible financing strategies that follow:
Strategy 1—Aggressive: Finance seasonal needs with short-term funds and permanent needs with long-term funds.
Strategy 2—Conservative: Finance an amount equal to the peak need with long-term funds and use short-term funds only in an emergency.
Strategy 3—Tradeoff: Finance $3,000,000 with long-term funds and finance the remaining funds requirements with short-term funds.
Using the data on the firm’s total funds requirements, Morton estimated the average annual short-term and long-term financing requirements for each strategy in the coming year, as shown in the following table. Average annual financing Strategy 1
Strategy 2
Strategy 3
Type of financing
(aggressive)
(conservative)
(tradeoff)
Short-term
$2,500,000
$ 0
$1,666,667
Long-term
1,000,000
7,000,000
3,000,000
To ensure that, along with spontaneous financing from accounts payable and accruals, adequate short-term financing will be available, Morton plans to establish an unsecured short-term borrowing arrangement with its local bank, Third National. The bank has offered either a line-of-credit agreement or a revolving credit agreement. Third National’s terms for a line of credit are an interest rate of 2.50% above the prime
Chapter Case
Selecting Kanton Company’s Financing Strategy and Unsecured Short-Term Borrowing Arrangement
Morton Mercado, the CFO of Kanton Company, carefully developed the estimates of the firm’s total funds requirements for the coming year. These are shown in the following table.
Month
Total funds
Month
Total funds
January
$1,000,000
July
$6,000,000
February
1,000,000
August
5,000,000
March
2,000,000
September
5,000,000
April
3,000,000
October
4,000,000
May
5,000,000
November
2,000,000
June
7,000,000
December
1,000,000
In addition, Morton expects short-term financing costs of about 10% and long-term financing costs of about 14% during that period. He developed the three possible financing strategies that follow:
Strategy 1—Aggressive: Finance seasonal needs with short-term funds and permanent needs with long-term funds.
Strategy 2—Conservative: Finance an amount equal to the peak need with long-term funds and use short-term funds only in an emergency.
Strategy 3—Tradeoff: Finance $3,000,000 with long-term funds and finance the remaining funds requirements with short-term funds.
Using the data on the firm’s total funds requirements, Morton estimated the average annual short-term and long-term financing requirements for each strategy in the coming year, as shown in the following table. Average annual financing Strategy 1
Strategy 2
Strategy 3
Type of financing
(aggressive)
(conservative)
(tradeoff)
Short-term
$2,500,000
$ 0
$1,666,667
Long-term
1,000,000
7,000,000
3,000,000
To ensure that, along with spontaneous financing from accounts payable and accruals, adequate short-term financing will be available, Morton plans to establish an unsecured short-term borrowing arrangement with its local bank, Third National. The bank has offered either a line-of-credit agreement or a revolving credit agreement. Third National’s terms for a line of credit are an interest rate of 2.50% above the prime