Vegit Corporation Needs to Borrow Funds to Support Operations During

question 30

Multiple Choice

Vegit Corporation needs to borrow funds to support operations during the summer.Vegit's CFO is trying to decide whether to borrow from Fruit Bank or Vegetable Bank.The loan offered by Fruit Bank has a 12.5 percent simple interest rate with annual interest payments, whereas the loan offered by Vegetable National Bank has a 12 percent simple interest rate with monthly payments.Which bank should Vegit use for the loan?

• A) Vegetable Bank, because the 12 percent simple interest is cheaper than the 12.5 percent simple interest at Fruit Bank.
• B) Vegetable Bank, because the effective interest rate on the loan is less than 12 percent, whereas the effective interest rate on the loan at Fruit Bank is greater than 12.5 percent.
• C) Fruit Bank, because the simple interest rate is higher, which means that Vegit will be able to invest the proceeds from the loan at a higher rate of return.
• D) Fruit Bank, because the effective interest rate on the loan is 12.5 percent, which is less than the 12.7 percent effective interest rate on the loan offered by Vegetable Bank.
• E) There is not enough information to answer this question.

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Definitions:

Market Risk

The risk that the value of a financial instrument will fluctuate because of changes in foreign exchange rates, market interest rates or some other market prices.

Credit Risk

The risk of loss due to a borrower's failure to make payments on any type of debt.

Liquidity Risk

The risk that an entity will encounter difficulty in meeting obligations associated with financial liabilities.

Derecognition

The process of removing an asset or liability from a company's balance sheet because it has been disposed of or is no longer expected to provide future economic benefits.