Question Details

Determine the financing rate that Janutis Co. expects 



1. Swap Agreement. Grant, Inc., is a well-known U.S. firm that needs to borrow 10 million British
pounds to support a new business in the United Kingdom. However, it cannot obtain financing
from British banks because it is not yet established within the United Kingdom. It decides to issue
dollar-denominated debt (at par value) in the U.S., for which it will pay an annual coupon rate of
10%. It then will convert the dollar proceeds from the debt issue into British pounds at the
prevailing spot rate (the prevailing spot rate is one pound = $1.70). Over each of the next three
years, it plans to use the revenue in pounds from the new business in the United Kingdom to make
its annual debt payment. Grant, Inc., engages in a currency swap in which it will convert pounds to
dollars at an exchange rate of $1.70 per pound at the end of each of the next three years. How
many dollars must be borrowed initially to support the new business in the United Kingdom? How many pounds should Grant, Inc., specify in the swap agreement that it will swap over each of the
next three years in exchange for dollars so that it can make its annual coupon payments to the U.S.
creditors?
2. Interest Rate Swap. Janutis Co. has just issued fixed rate debt at 10 percent. Yet, it prefers to
convert its financing to incur a floating rate on its debt. It engages in an interest rate swap in which
it swaps variable rate payments of LIBOR plus 1% in exchange for payments of 10%. The interest rates are applied to an amount that represents the principal from its recent debt issue in order to
determine the interest payments due at the end of each year for the next three years. Janutis Co.
expects that the LIBOR will be 9% at the end of the first year, 8.5% at the end of the second year,
and 7% at the end of the third year. Determine the financing rate that Janutis Co. expects to pay on
its debt after considering the effect of the interest rate swap.




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