Question 1. Two Lips, Limited, a Dutch bulb exporter, needs to borrow $40,000,000 for three years. They have the following alternatives: (a) Borrow for 3 years at 6.25% fixed rate. (b) Borrow at LIBOR + 1.75. LIBOR is currently 3.5% and will reset every six months over the life of the loan. (c) Borrow for one year at 4.75%. They would refinance the loan at the end of the year. What are the advantages and disadvantages of each alternative? What should they do? Why?
Question 2. Itsa Corporation and Ovah, Limited both seek funding at the lowest possible cost. Itsa would prefer a floating-rate loan while Ovah wants the stability of fixed-rate borrowing. Itsa is more creditworthy. Itsa is AA rated, can borrow at 6% in the fixed rate market, and can borrow at LIBOR +2% in the floating rate market. Ovah is BB rated, can borrow at 10% in the fixed rate market, and can borrow at LIBOR + 3% in the floating rate market. What should they do?
Question 3. Uncle Ben's uses imported rice from Japan. Payment of ¥12,000,000 is due in 3 months. The current spot rate is ¥123/$, the 3-month forward rate is ¥120/$, and the 6-month forward rate is ¥119/$. The annual Japanese interest rate is 0.75% while the annual U.S. interest rate is 2.00%. A 3-month call option with a ¥123 strike has a 3.5% premium while a 6-month call options with a ¥123 strike requires a 5.0% premium. The company's weighted average cost of capital is 11%. What are the costs of each alternative? What are the risks of each alternative? Which alternative should Uncle Ben's choose if it is willing to take a reasonable risk?